What Are the Rules for a 529 Plan?

Although details of 529 plans vary from state to state, basic rules are that each plan has a single custodian and beneficiary, the funds in the plan are administered by the custodian until they are disbursed, the funds can be used only for education-related expenses and total contributions cannot be greater than qualified educational expenses. These expenses include tuition, room and board, books, fees, supplies, and computer software and hardware.

Anyone can set up and administer any number of 529 plans for future students. There are no restrictions on income, and anyone can be the beneficiary, even the person who sets up the plan. The custodian controls the funds until they are withdrawn and used and can change the beneficiary to another member of the family without penalty. Contributions to a 529 plan are not directly tax deductible, but they are considered gifts under federal gift tax regulations. Some states offer state income tax deductions for 529 plan contributions. Additionally, the investment earnings, if used for qualified educational expenses, are exempt from federal and most state taxes.

There are two types of 529 plans. Pre-paid tuition plans help avoid tuition inflation by locking tuition costs into current rates. Savings plans make it possible to accumulate funds for educational expenses in a way that offers significant tax savings. All 50 states, the District of Columbia and a number of qualified educational institutions offer 529 plans, and every plan has its own unique features. For instance, some states offer special credits or benefits to state residents.