By Michael Donahoe
When you’re comfortably retired, one of the greatest gifts you can give to your loved ones is the promise of a good education. By gifting your grandchildren an education, you’re providing them the tools they need to be successful, and increasing their chances of leaving a positive impact on their communities and eventually enjoying their own financial independence.
If helping your grandchildren pay for college is a goal you have for your retirement, we want to help make sure you keep your best interests in mind while doing so. Read on to discover three tax-efficient ways to help pay for your grandchildren’s college education.
1. Gift The Money Outright
Your first option is to simply gift the money to your grandchild outright. This type of gift allows your grandchild flexibility in how they’ll spend the money while in college, whether it helps pay for tuition, covers the cost of textbooks, or simply gives them the freedom to order pizza every once in a while.
It’s important to keep in mind that, if you want to avoid paying a gift tax (which we always recommend), you can only gift your grandchild a maximum of $15,000 per year—or $30,000 if you’re married. This amount is referred to as an annual gift exclusion. Rates for gift taxes range anywhere from 18% to 40% depending on the amount exceeding the exclusion.
2. Pay Tuition Directly
The cost of higher education has skyrocketed in the past two decades, so it’s unsurprising if you want to help your grandchild with more money than what the annual exclusion allows. Instead of gifting the money directly to your grandchild (or in addition to), you can make tuition payments directly to their university or community college.
The IRS states that a gift in the form of college tuition payments is excluded from the federal gift tax. (1) The limits for the Educational Exclusion are currently $20,000, (2) and this payment must be used only to cover tuition. This gift cannot be used for room and board, textbooks, or student fees.
3. Contribute To A 529 Plan
529 plans are one of the most popular ways parents and grandparents help pay for college. Started early enough, a 529 plan that is properly invested can grow exponentially over the years. But perhaps the most attractive aspect of the 529 plan is the tax advantages. Contributions to the plan may be tax-deductible in some states, and withdrawals from the plan are not subject to income tax for qualified educational expenses.
As with outright cash gifts, contributors to the 529 plan can only contribute up to the annual exclusion amount without incurring a gift tax. But one unique option is that wealthy grandparents can “superfund” a 529 plan by contributing up to five years of gifts at once. So if you and your spouse have the means to do so, you could effectively contribute $150,000 the first year the plan is opened and allow for five extra years of growth in the investments.
Looking For More Great Insights? Sign Up For Our Newsletter
Of course, with each option we’ve described, it’s important to remember that there are tax implications if these gifts are not dispersed correctly. Additionally, improperly structured gifts can actually reduce student aid that your grandchild may otherwise be entitled to. For these reasons, we recommend working with a qualified financial or tax advisor to be sure you’re making contributions that are in your best interest as well as your grandchild’s best interest.
At Harvest Asset Group, LLC, our greatest reward is helping our clients achieve a comfortable, secure retirement and build a legacy they are proud of. If you’re looking for more ways to make the most of your retirement and build your legacy, we invite you to get access to our best financial insights and tips by signing up for our valued-packed newsletter.
Michael Donahoe is the founder and principal of Harvest Asset Group, LLC, an independent, fee-only financial planning and investment management advisory firm in Portland, Maine. Michael enjoyed a successful corporate career in marketing and sales before transitioning to the financial planning profession, founding his firm in 2012, where he now leads the client services team and serves as the firm’s chief compliance officer. Michael earned his MBA degree from George Washington University and completed his educational requirements to earn the CFP® mark of distinction at the University of California, Berkeley. He is a Fee-Only and NAPFA registered financial advisor, a designation which followed the completion of rigorous continuing education requirements. Michael has lived in the Portland area since relocating from San Francisco in 1995 to be closer to family. He is active in community affairs and spends his non-working time enjoying the natural beauty of Maine.