Posted by BRIAN PRZYSTUP & ASSOCIATES LLC

How to Pay Off Your Student Loans with a 529 Plan

How to Pay Off Your Student Loans with a 529 Plan

Congress is about to tackle a new bill that will allow 529 plans to be used to pay off student loans. There are an estimated 43 million Americans with student loan debt today and the Student Debt Relief says, the average graduate has a debt of $37, 172 in 2016. There was, in fact, an increase of 6% on the previous year.

If you’re a new grad and you’re just about to start a career, finding the money to pay down your student loans is definitely a struggle. Although there is some relief offered by loan forgiveness programs, they are only meant for borrowers who work in selected fields. 

How a 529 Plan Can Help

H.R 529, also dubbed the “529 and ABLE Account Improvement Act of 2017,” was introduced in January 2017 by House members Lynn Jenkins (R-Kan.) and Ron Kind (D-Wis.) The focus of the bill is on 529 plans allowing subscribers to save expenses on future education on a tax-advantaged basis. If withdrawals from 529 plans are used to cover qualified education expenses including tuition and fees or room and board, they are 100% free of federal taxes.

Pension & Investments said collectively, 529 plans that are active in operation in 2016 help approximately $275.1 billion in assets. The primary reason why the bill was designed is to encourage employers to contribute funds to 529 plans on the employees’ behalf via tax incentive. These accounts would exclude up to $100 of employer contributions from taxes. To help with the cost of setting up payroll deductions for these accounts, small businesses that makes contributions to 529 plans would also get a tax credit.

By removing penalties for using 529 funds to pay off student loans, the legislation would also greatly benefit savers. At the moment, taxpayers who utilize 529 plan money for things other than qualified education expenses have to pay a 10% federal tax penalty. Additionally, the taxable income also includes any distribution of earnings would could result in an increase of the saver’s tax liability.

For families who may have leftover 529 plan money and to avoid a tax penalty for making distributions that are non-qualified, this bill is considered a boon. The Internal Revenue Services currently allow for these accounts to be transferred from the beneficiary to another. However, if there are no other students in a family that can use the money, the fund unused must either be left or the tax liability will be charged.

The bill, on the other hand, does not recognize how distributions from 529 plans will be treated to pay student loans when it comes to the student loan interest deduction. In terms of claiming multiple credits or deductions for the same education expenses in a single year, the tax code prohibits double-dipping. There may be a question about whether 529 plan owners would be able to use those tax-advantaged funds to pay off student loans and still claim a deduction for the interest they paid if the bill becomes law.

If signed, the law will provide a new way for grandparents to help a grandchild pay for college and their financial aid eligibility won’t be affected. Distributions from a grandparent owned 529 plan are normally reported as untaxed income on a student’s Free Application for Federal Student Aid (FAFSA). The financial aid package of a student may be reduced by up to 50% of the value of income that is not taxed. 

Grandparents now just have to wait to take a 529 plan distribution until after the graduation of their grandchild to pay down their student debt. Financial aid will not be affected by assets held in a grandparent-owned 529 plan and since the 529 plan distribution was taken after the student’s graduation, there is no need to report on the FAFSA.

The Conclusion

Congress is yet to tackle the H.R 529. This means its final form is not yet known, whether it becomes law or not. It is, however, advisable for parents to keep on saving money in 529 accounts on behalf of beneficiaries that qualified. For 2017, those who are a married couple may contribute up to $28,000 per child to a 529 without triggering taxes on the federal gift.

If you’re a student with education debt, you’re probably aware of how there are only very limited existing avenues in order to manage your loans. There are other options such as consolidation, refinancing or pursuing an income-based repayment plan but it is always to consider each of them carefully. You may also consult a financial advisor to guide you several payment options to finally pay off your student loan. 

BRIAN PRZYSTUP & ASSOCIATES LLC
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