by Kahtryn Flinn, Forbes.com, December 21, 2019

Just in time for the holidays, the Setting Every Community Up for Retirement (SECURE) Act was signed into law on Friday, December 20, 2019. The Act, which was the most significant piece of retirement legislation introduced in over a decade, includes provisions to help individuals save more for retirement and achieve financial security. The SECURE Act also features important changes for education savings, including expanding 529 plan benefits.  

Changes To 529 Plans

529 plans are tax-advantaged accounts designed to save for college and private K-12 education. Families contribute after-tax dollars, which grow on a tax-deferred basis and can be withdrawn tax-free if the funds are used to pay for qualified education expenses. You can withdraw funds from a 529 plan at any time for any reason, but the earnings portion of a non-qualified distribution is subject to ordinary income tax and a 10% penalty.

One of the most common concerns parents have about opening a 529 plan is having leftover funds after the beneficiary graduates from college. Prior to the SECURE Act, qualified education expenses were limited to $10,000 in K-12 tuition and certain college expenses. The SECURE Act expands the definition of qualified higher education expenses to include student loan payments and costs of apprenticeship programs, leaving more options for families.

529 plan account owners may now withdraw up to $10,000 tax-free for payments toward qualified education loans. However, there is no double-dipping when it comes to federal education tax benefits. Any student loan interest paid for with tax-free 529 plan earnings is not eligible for the student loan interest deduction.

The $10,000 limit is a lifetime limit that applies to the 529 plan beneficiary and each of their siblings. For example, a parent with three children may take a $10,000 distribution to pay student loans for each child, for a total of $30,000.

The law provides a new way for grandparents to help a grandchild pay for college without affecting financial aid eligibility. Normally, distributions from a grandparent-owned 529 plan are reported as untaxed income on a student’s Free Application for Federal Student Aid (FAFSA). A student’s financial aid package may be reduced by up to 50% of the value of untaxed income. For example, if a grandparent withdraws $10,000 from their 529 plan to pay a grandchild’s college expenses, it could reduce the grandchild’s financial aid eligibility by as much as $5,000.

Now, grandparents are able to avoid this negative impact if they wait to take a 529 plan distribution until after the grandchild graduates to pay down their student loans. Assets held in a grandparent-owned 529 plan do not affect financial aid, and since the 529 plan distribution was taken after the student graduated, there is nothing to report on the FAFSA.

Using A 529 Plan To Pay For Apprenticeship Programs

It’s impossible to predict what path a child will decide to take. Parent may open a 529 plan when their child is very young, only to find out years later that the child isn’t going to attend a traditional college. 529 plans can be used to pay for any eligible post-secondary institution, including trade schools and vocational programs. But, prior to the SECURE Act, costs of apprenticeship programs were not considered qualified 529 plan expenses.

Apprenticeship programs provide on-site training to prepare workers for careers in various fields, such as manufacturing, health care, information technology and construction. Students who are pursuing an apprenticeship may use tax-free 529 plan distributions to pay for fees, textbooks, supplies and equipment required for a registered apprenticeship.

529 Plan State Tax Benefits

Your state may offer an income tax deduction or tax credit for 529 plan contributions. However, some states only offer a tax break when distributions are used to pay for college. If your state does not conform with the federal law, 529 plan distributions used to pay student loans and apprenticeship costs may be considered non-qualified.

At the state level, non-qualified distributions are typically subject to state income tax on the earnings portion of the distribution and, in most cases, any income tax benefits previously claimed are subject to recapture. California also imposes a 2.5% penalty tax on the earnings portion of non-qualified distributions. `        

529 plan account owners should check their state’s rules regarding distributions for student loan payments and apprenticeship costs. However, even if your state does not conform with the recent changes to 529 plans, you can still take advantage of the federal tax benefits.