My daughter is considering a Canadian school for her bachelor’s degree. The school is listed on the US Department of Education’s website as a “suspended only” school, which means the student cannot receive new federal loans while at the school. But if she has an existing loan, it can be deferred while she attends this school. We have a 529 plan for my daughter. If we withdraw from the 529 and pay tuition and room and board at this school, would this be considered an eligible withdrawal? Or we have to pay tax on withdrawal and 10% penalty on earnings? Flummoxed on College Financing Dear Flummoxed, Your question comes to me at a time when higher education costs are in the news. The Supreme Court recently heard arguments on the Biden administration’s bid to eliminate more than $400 billion in student loans. Your question is about 529 accounts. But these tax-advantaged 529 savings vehicles and student loans are different parts of the same effort to pay for a degree. These accounts help families build more savings for college so students can take on less debt. However, if you and your daughter stick with this particular college, there are potential financial difficulties with your 529 money as well. As you note, non-qualified distributions result in income tax on the earnings portion of the withdrawal and a 10% tax penalty on the earnings. Some states may recoup their own tax breaks for past contributions. “To qualify for a 529 plan distribution, a college must be eligible for Title IV federal student aid,” said Mark Kantrowitz, an expert on 529 accounts, paying for higher education expenses and author of the book “How to Appeal for More College Financial Aid.” There are about 400 schools outside U.S. borders that qualify for Title IV federal student aid, and 67 are located in Canada, Kantrowitz noted. He said here is the Education Department’s web portal to see which local and international schools are eligible. To your point, however, “since college is only designated as deferred school, distributions from a 529 plan to pay for college would be considered non-qualified distributions,” Kantrowitz said. Non-qualified distributions will also apply to non-tuition expenses that might otherwise be eligible, he added. Borrowers from 529 accounts can make up to $10,000 in student loan payments per borrower. But, Kantrowitz wrote, “the student must be enrolled in a college or university that is eligible for Title IV federal student aid.” There are exceptions for study-abroad programs where the student’s home institution qualifies, he said. But that doesn’t sound like your plan here. What’s more, if your daughter is pursuing a career in America that requires a specific professional license, a degree from a non-accredited school abroad can create problems, Kantrowitz noted. Explaining 529 Plans I hope my answer doesn’t spoil the plans. For those not familiar with 529 plans: they are funded with after-tax money and families can exempt them from federal income tax as long as they are for proper distributions. Eligible expenses include tuition, room and board, as well as books and supplies the student needs to participate in class. These accounts combined totaled more than $411 billion with an average account balance of $25,630 as of December. Another caveat: Using 529 money to pay for a Canadian airplane ticket or gas money also won’t count as an eligible expense, Kantrowitz said. But focusing on just one school can be foolish. Broadening your search can lead to a good school for your daughter — and a good one for tax-efficient use of your 529 funds. “What I tell students and parents is that there is no such thing as a dream school. There are three dream schools,” Kantrowitz said. Starting next year, unused 529 money can be rolled over to a Roth IRA for a beneficiary. This is thanks to the year-end passage of SECURE 2.0, a comprehensive law focused on retirement savings. Roth IRAs are funded with after-tax money, so they are later withdrawn tax-free. Some pre-existing options for unused money include switching beneficiaries. “The relief is intended for people who want to save early for higher education, but aren’t sure how much to save,” said Find Your Financial Bliss founder and financial coach Kelly Long. She added, “It just removes one of the common arguments against 529s, which is ‘hey, if you put too much in, you’re going to get penalized.'” Must be in account for at least five years. It includes earnings and contributions, according to John Hancock Investment Management’s new rules agreement. There is an overall maximum of $35,000 that can be rolled over from a 529 to a Roth IRA. It also mixes in other rules, including annual IRA contribution limits and the beneficiary’s own earned income requirements. Bottom line: A college degree can help your daughter get ahead in her life. If you can’t use the 529 money for that purpose, the money can help her grow on her nest egg.
