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529 Plans For Grandparents

It’s true.  No good deed goes unpunished.  The do-gooder in this instance, is good ol’ grandma.  She sets up and contributes her hard earned cash to Johnny’s 529 plan, in the hopes of lowering his (and his parents) potential student loan debt.    Seemed like a good idea at the time.   But o au contraire mon ami! 

Although the grandparent-owned 529 account is not reportable on the student’s FAFSA (which is good for aid eligibility), any distributions to the student or to the student’s school from a grandparent-owned 529 plan must be added to student incomeon the following year’s FAFSA (which can be very bad).  So what can be done now that the proverbial damage is done?

-- Take distributions from a grandparent-owned 529 only after the student has filed his final FAFSA. (January 1stof Johnny’s junior year)  This represents the best of both worlds: the account value never gets reported on the FAFSA as an asset, and use of the account never gets reported as student income.

--Change owners on the 529 account, if allowed. The plan is reportable as a parent asset whether the account is owned by the student, by the parent, or by a custodian for the student under the Uniform Transfers to Minors Act. Student-owned or parent-owned 529 plans are not includable in the student’s income on the FAFSA, although the account is considered a student owned asset, and factored into the financial aid formula.

--Gift any distributions from a grandparent 529 to the student’s parents and let them use the money for their child’s college expenses. Because they are not directly supporting the student, an argument is made that these gifts do not get added to the student’s income on the FAFSA.  The only requirement is that the accountbeneficiary incur qualified expenses during the same year the distributions are taken from a 529 plan.

--Retain any distributed funds from a grandparent 529 in the grandparent’s checking or investment account until Liberation Day (January 1st of junior year), and then gift the money to the student to repay college loans.  This strategy, as well as the previous one, does have some downside in the gift tax arena, so tread carefully. 

So the bottom line is:  Do-gooders beware.  And on behalf of Johnny and his parents, “Thanks Grandma!”