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4 Common 529 Plan Myths You Need to Know

Paying for college can be a daunting prospect, given the cost of tuition today. So you may be motivated to save for college as best as you can while your children are young, and you may decide to use a 529 plan to fund their education.

But there’s a lot of misinformation about 529 plans out there. It’s important to get to the bottom of it if you have one of these accounts, or if you’re thinking of opening one. Here are four common 529 plan myths you shouldn’t buy into.

A person wearing a backpack.

Image source: Getty Images.

1. Your money can only be used for four-year college

You can absolutely use a 529 plan to pay tuition at a four-year college. But that’s not your only option.

You can also use funds from a 529 plan to pay for community college, or to cover the cost of a trade or vocational school. Plus, you can use money from a 529 plan to pay for K-12 private school tuition.

2. Your money can only be used to pay for tuition

The money in a 529 plan doesn’t only have to go toward tuition to count as a qualified withdrawal. You can typically withdraw funds from a 529 plan to pay for educational supplies like computers and books, plus room and board at college. You can even use a 529 plan to pay up to $10,000 in student loans.

3. You’re required to invest in your home state’s plan

Each state administers its own 529 plan, but that doesn’t mean you’re limited to the plan your home state offers. You can absolutely put money into a 529 plan administered by a state you don’t live in.

That said, some 529 plans may have residency requirements, so it’s important to do your research. You should also know that some states offer tax breaks for 529 plan contributions, but you may need to invest in your home state’s plan to get that sort of benefit.

4. You’ll be penalized if you don’t use your 529 plan for qualifying education-related expenses

We established earlier that 529 plan funds can be used for education-adjacent expenses — things like textbooks and supplies. But thanks to a new rule, if you have a leftover balance in your 529 plan after covering all your education-related costs, you’re not necessarily stuck. That’s because you can roll up to $35,000 from a 529 plan into a Roth IRA without incurring the 10% penalty that would’ve previously applied to that sort of withdrawal.

There are rules to follow if you’re rolling money from a 529 plan into a Roth IRA. First, you’ll need to have owned the 529 plan for at least 15 years before doing rollover. Your rollover also can’t exceed whatever the allowable Roth IRA contribution limit is for a given year.

In other words, if the IRS limit for Roth IRA contributions is $7,000, that’s all you can move over in a single year. But now, there’s less pressure to spend down a 529 plan on education costs, since the penalty-free rollover option exists.

Saving in a 529 plan could help make college far more affordable once your children get there. It could also spare them the headache and financial blow of having to take out student loans. But it’s important to know how 529 plans work before diving in, so keep these essential rules in mind as you go about funding your account.

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