Take Advantage of a Tax-Favored College Savings Plan

Nothing focuses attention on the value of a tax break like the thought that it could disappear.

That’s what happened at the start of 2015 when President Obama suggested that Section 529 college savings plans should go the way of the dodo bird. Within hours, a firestorm of protests convinced the president to abandon his proposal. For at least the foreseeable future, 529 plans will be available.

These savings plans are named for the section of the Internal Revenue Code that creates the tax break that gives them their allure. You don’t get a federal tax deduction for contributing to a 529 plan, but investment earnings inside the account accumulate tax-deferred and can be withdrawn tax-free if used to pay qualified college expenses.

Even better, most states that have a state income tax offer residents a state tax deduction for the amount they contribute. Pennsylvania residents, for example, can deduct up to $14,000 in contributions per beneficiary per year ($28,000 if married filing jointly, assuming each spouse had income of at least $14,000)[1].

If your state offers a tax break

it may be a good option to invest in your own state’s plan. If your state doesn’t offer a tax break – or if you live in Arizona, Kansas, Maine, Missouri, Montana or Pennsylvania, which offer a tax break no matter where you invest – you can search for a plan that meets your goals. That means checking out the kinds of investments that those plans permit and the expenses involved.

This hypothetical example will give you an idea of the value of tax-deferred earnings: Parents (or maybe grandparents) set aside $5,000 a year from the time a child is born until she reaches age 18 and heads off to college. Assume that the account earns at an average annual rate of 8% a year and the owners face a combined 20% federal/state tax rate on investment earnings. In a taxable account, the annual contributions would grow to a total of $171,000 by freshman year. In a 529 account, the contributions would grow to $202,000. That’s the power of the tax break. (And this example does not take into account the value of any state tax deduction.)

If you’re setting money aside for a child’s college education, PNC can help you decide if a 529 plan could be a good option for you. We can also help you balance the need for college savings with other expenses, such as retirement investing.

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Important Legal Disclosures and Information

  1. Source: www.pa529.com/learn

This material is meant to educate and not to provide legal, tax, accounting or investment advice. PNC Investments and its affiliates and vendors do not provide legal, tax or accounting advice.

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