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Funding your kids’ future: Calling the 529 Police!
Most parents, even divorcing ones, agree that their kids’ education is vital. Yet how they actually contribute to that future—or not—varies. Even with the affluent women clients I serve.
As a CPA, a CERTIFIED FINANCIAL PLANNER® professional, and a Certified Divorce Financial Analyst® professional who provides divorce financial counseling for affluent women in the next chapter of their lives, let me paint the kids’-education-planning landscape for you.
Three ways to go
College is expensive. You could save for your kids’ future using an ESA, or educational savings account, although they have a lot of limitations. You could opt for a taxable brokerage account (more on that in a minute). Or you could take the most common route: a 529 savings account, especially earmarked for that kid and his/her education.
On paper, it works like this: You fund the kid’s account while they’re young, so they can use it when it’s time for college. It used to be that there was a big fear of accidentally over-funding the account, since there were penalties for that, but fortunately those have been relaxed lately.
A 529 is state-based. So you can shop around. Many of my clients prefer Utah 529s, for example, due to the low-cost investments they offer for contributions.
And anyone can contribute to your kid’s 529. Read: “Generous grandparents.”
Now factor in divorce…
Remember: A 529 is strictly for education. There are penalties for withdrawing money early. And there are penalties for using any funds for non-educational purposes.
When divorce enters the picture, things get murky. Or even ugly. I’ve seen husbands, making $1 million a year, “offering” to “pay half” of the ongoing contributions… when the wife is only earning $90k a year. I’ve seen guys tell their kids: “Your mom won’t help pay for college.”
And I’ve seen spouses—husbands and wives alike—dip into their own kids’ 529s as if they were their own personal piggy banks. Yep. I’ll tell you about the “529 Police” in a second.
The brokerage account
The down-side of this funding approach is that it’s taxable. You’ll pay taxes on capital gains and dividends. But aside from that, there are zero strings attached. You can tap funds from it when you want. You can use it for educational or non-educational things.
Nerd Alert: A 529, by contrast, can get rolled into a Roth IRA. But compared to the basic brokerage account I’d just described, consider that, for a Roth (try and read this next passage real fast)…
A Roth must be funded for five years before you can withdraw any money tax-free, and if you’re not 59.5 years old and the account hasn’t been open for five years, then the gains can be taxable, and there’s a ten-percent early-withdrawal penalty, which wouldn’t affect your parents but would affect you, and…
As I’d said. Nerd Alert.
Good news: I’m a nerd! I’m a CPA and I live and breathe this stuff.
What about student aid?
Good question. For affluent family members, they generally don’t qualify for need-based aid. So if the grandparents kick in some money each year, for example, there’s no danger of the family crossing an income threshold whereby they’d lose their eligibility for aid.
Back to divorce. And the 529s. A 529 is a custodial account, with only one person listed as the “Custodian.” If one parent can’t be trusted to manage the account honestly on behalf of the child, sometimes it’s better to effectively “break it in half,” with two 529s, with one managed by each parent, thus cutting the risk in half.
And sometimes, post-divorce, the woman’s new “household” may actually qualify for need-based financial aid. Which is often the more prudent way to go; as I put it, “I know you want to pay for this yourself, but your kids would rather pay off their own student loans vs. having you move in with them in ten years!”
Finally. As promised. Here’s where I tell you about the 529 Police, who make sure that no one uses the kid’s account as a piggy bank, and everything gets properly reported.
Bad news: They don’t exist. I just made that up. 529s are notoriously not policed. And once the kids reach the “age of majority” (that’s 18 here in Arizona), even the courts won’t order that anyone pays for their education.
Bottom line? Get help, from an expert like me, to navigate these murky waters.
Call me today and let’s talk.
