Guide to saving for college and 529 plans

Planning for higher education expenses as part of a college savings plan is important, but it can also feel overwhelming. One reason to start saving early is that college tuition has increased significantly over the past 20 years, with the average cost of tuition and fees climbing more than 93%¹.

Families should consider multiple options when selecting the right college savings plan to meet their education savings goals. Here are some of the most common education savings accounts to consider as part of a college savings plan.

529 accounts

A 529 college savings plan is one of the most popular tools for education funding because of the income tax advantages and is commonly used to help families save for future education expenses. Contributions to 529 savings accounts are invested for growth without ongoing income tax. Funds distributed from a 529 account are tax-free when used for qualified education expenses, subject to applicable 529 plan rules. Although you can use the 529 funds for non-qualifying educational expenses, portions of those distributions may be subject to both ordinary income tax and a 10% penalty.

Each state other than Wyoming offers a 529 plan with different investment options available. Depending on your state of residency, you may be eligible for a deduction on your state tax return for making contributions.

For example, an Ohio resident may be eligible to take a state tax deduction of up to $4,000 per beneficiary, per year, for contributions to any state’s 529 plan, subject to current state tax rules.

Historically, 529 accounts owned by a parent or student were reported as assets on the Free Application for Federal Student Aid (FAFSA) application. In recent years, the Department of Education revised FAFSA to focus primarily on the income and assets of the student and their parents. As a result, contributions to and distributions from 529 accounts owned by grandparents may have less impact on a student’s financial aid eligibility, provided the account is not owned by the student or parent.

Legislative changes under H.R.1, One Big Beautiful Bill Act (OBBBA) have expanded the flexibility of 529 plans, allowing funds to be used for a broader range of education-related expenses, including certain K-12 costs, supplemental learning expenses and credentialing programs. In addition, the annual withdrawal limit for K-12 education increased from $10,000 to $20,000 per year, providing greater flexibility for families planning for a variety of educational paths².

Custodial accounts

A custodial account is an investment account established by an adult for a minor beneficiary. The custodian is responsible for managing the account in the beneficiary’s best interest until the beneficiary reaches a stated age, typically between 18 and 25, depending on the state of residency. Once that age is reached, the beneficiary becomes the owner of the account.

Custodial accounts are considered the beneficiary’s assets and are reportable on FAFSA applications. While there are no specific income tax benefits unique to a custodial account, there is also no requirement that the funds be used for educational expenses.

Traditional investment accounts

A traditional investment account is a simple option for saving for college, especially when savings begin closer to enrollment. Realized gains and income are taxed, unlike in a 529 plan, but the funds can be used for any purpose without penalty if the student chooses not to attend college.

There are no funding limitations on an investment account. However, there are no specific tax benefits for funding education with this account type. If the account is owned by the parent or the student, it will affect the student’s FAFSA filing.

Traditional savings accounts

Like an investment account, a bank savings or money market account is another simple option. Earnings may be lower compared to other savings vehicles, but these accounts have little to no market risk.

Like a traditional investment account, the funds can be used for any purpose without penalty. There are no funding limitations and no specific tax benefits. If the account is owned by the parent or the student, it may affect the student’s FAFSA filing.

Roth IRAs for a child or grandchild

Although a Roth IRA is traditionally used as a retirement funding vehicle, it can also be used as part of an education savings strategy. In general, withdrawals from Roth IRAs are tax-free after the account owner turns 59 ½, including any investment returns earned on their original contributions.

Roth IRA assets can be used at any time, even before the account owner turns 59 ½, to fund education expenses for the account owner, their spouse, children or grandchildren without incurring the 10% penalty that would normally apply. However, for distributions taken before age 59 ½, any earnings may be taxable, even if used for education expenses.

Planning tip: Ask your tax and legal advisors about the potential benefits of withdrawing Roth IRA assets when a dependent is within two years of graduation. FAFSA rules generally look back at income over the prior two years, so recognizing income later in the process may have less impact on financial aid eligibility.

529 to Roth conversion

A custodian of a 529 plan may convert funds from the 529 account to a Roth IRA for the beneficiary without triggering additional income taxes or penalties, subject to certain requirements:

• The Roth conversion is only available for funds in 529 accounts that were created more than 15 years before the date of conversion, and only for contributions made more than five years prior.
• The converted funds must be transferred from the 529 account into a Roth IRA for the designated beneficiary.
• Standard Roth IRA contribution rules for the beneficiary continue to apply, including annual contribution limits, which are $7,500 for individuals under 50, and the requirement to have earned income at least equal to the amount contributed³.
• Each 529 beneficiary has a total lifetime conversion limit of $35,000.

Additional IRS guidance may further clarify how these provisions are applied over time. State laws may also differ from federal rules.

Planning your approach to college savings

Saving for college can involve a range of options and considerations. Working with experienced advisors can help you evaluate your choices and determine an approach that aligns with your goals.