DENVER (AP) - As manyparents know, paying for their children's college education is often afinancial nightmare. That's where many grandparents are stepping in.
"It's becoming almost a necessity for grandparents to help with theexpense of college education," says Gregg Parish, an academic associateat the College for Financial Planning.
But help how? Grandparents face an array of choices. While each choicehas its advantages, the option that is becoming especially popularthese days for grandparents who have some wealth to pass on is thecollege savings plan.
Often referred to as 529 plans after a section in the federal tax code,the programs are set up by individual states. Parish emphasizes that"state programs vary vastly in their terms," but in general, theyoperate this way. Anyone -- parents, grandparents, friends -- caninvest money in a particular state's college savings plan on behalf ofa specific child. The plan may require that contributors be residentsof the state, but many plans allow nonresident investors.
The plan invests and manages the money on behalf of the contributor,much like a mutual fund invests and manages money for its shareholders.Also, like a mutual fund, there is no guarantee of how well theinvestment will do over time.
There is no federal tax deduction for the contributions, but theearnings grow tax-deferred until the money is taken out for college. Aslong as the money is used to pay for qualified higher educationexpenses, the distributions from the account are taxed at the student'sincome-tax rate. Should the money not be used for qualified educationexpenses, the distributions are taxed at the account owner's ordinarytax rate, plus a 10 percent penalty. One of the biggest advantages to 529 plans is that under federal lawcontributions can total as high as the average cost of five years ofeducation for the area of the schools that can be attended by the plan.Contributions by grandparents to these plans are considered gifts, andnormally gifts of more than $10,000 a year would create a gift-taxliability. The advantage of a college savings plan is that donors canspread out the tax liability over five years, potentially avoiding anygift tax. One disadvantage of college savings plans is that they make theinvestment decisions, not you. Some plans are very conservative, othersare not. Consequently, some grandparents may prefer simply investing ontheir own and donating the proceeds to their grandchild. However,Parish points out that beyond the gift-tax issues of this strategy, theearnings don't grow tax-deferred, and when the investment is soldyou'll have to pay capital gains taxes, which typically will be higherthan the tax rate the grandchild pays under a college savings plan.Associated Press iSyndicate, Inc., Inc.
