Take it from a former student: college is expensive! Student loan debt in the United States is presently in excess of $1.3 trillion and growing, as college tuition increases continue to outpace the rate of inflation. Parents and family members who wish to help pay for their loved ones to attend an accredited post-secondary institution may want to consider 529 plans – named by reference to the Internal Revenue Code section sanctioning qualified tuition plans – as a financing technique.

529 plans are particularly attractive because the earnings on 529 plans, which are sponsored by all 50 states and the District of Columbia or educational institutions, are not subject to federal income tax and may not be subject to state income tax. Also, properly structured contributions to 529 plans are not subject to federal gift tax.

529 plans comprise both pre-paid tuition and savings plans. Pre-paid tuition plans generally only cover tuition and mandatory fees and allow the purchaser or custodian to purchase credits or units for the current or future student at participating colleges and universities at a locked-in price. Some plans also provide for room and board option and may require residency in the sponsoring jurisdiction. Educational institution can only offer prepaid tuition plans.

Savings plans, also known as savings accounts, cover not only tuition and mandatory fees, but also room and board and the cost of computer technology and related equipment and/or related services, such as internet access, but prices are not locked-in. The donor chooses the investment options for the plan, which may include stock mutual funds, bond mutual funds, and money market funds. Some investments are not federally insured and do not always guarantee growth or return on investment. Unlike some pre-paid tuition plans, savings plans do not contain residency requirements, but aggregate contributions may be limited to a specified amount.

Annual contributions of up to the annual exclusion amount per beneficiary ($14,000 in 2017 and $15,000 in 2018) are not subject to federal gift tax (provided no other gifts are made to the beneficiary during that year) and married couples may effectively double their contributions. Contributions also may be front loaded for up to five years, which requires that the donor file a federal gift tax return to make the five-year election. In order to take advantage of front loading annual exclusion amounts, the donor must survive for the entirety of the five-year period. If the donor passes away during the five-year election period, contributions allocated to the remaining years after death will be included in the taxable estate of the donor.

Victoria Jobe also contributed to this post.