Article by Cecily Garber
This information is provided for general educational purposes only. It should not be relied upon as, or in place of, legal, tax or other professional advice. Readers are encouraged to work with their financial, legal and tax advisors when addressing specific issues.
Following passage of the Tax Cuts and Jobs Act in December 2017, families may now use 529 plans to pay for K-12 education. To what extent families will take advantage of the new law, and how they might do so, remains unclear — as do implications for independent schools, in terms of financial aid calculations, payment plan dates and potential reporting obligations.
Basics of the Law
Some states allow a state tax deduction for contributions to 529 plans, though schools should be aware that this may change.
- Tax advantages: Families can contribute income tax-free to 529 plans, which can then grow tax-free. Some states allow a state tax deduction for contributions to 529 plans, though this may change, if states think they will suffer significant declines in tax revenue.
- Withdrawal amounts: Families can use up to $10,000 per student per calendar year from 529 plans to pay for K-12 education. Different amounts can come from different accounts (e.g., $5,000 from a parent’s plan, $5,000 from a grandparent’s).
- Qualified expenses: Tuition, tutoring, room and board, books, curricular materials, online educational materials, educational therapy for students with disabilities.
- Timing: Federal law doesn’t require funds to stay in the account for any particular amount of time. Distributions related to the newly allowed K-12 qualified educational expenses became acceptable after December 31, 2017.
- Portability: The beneficiary of the funds (student) can change, and account holders can move the funds from one 529 plan to another without penalty.
- Penalties: If plan funds are not used for qualified expenses, account holders face a 10 percent penalty and taxes upon withdrawal.
The most important thing independent schools should know about the 529 provisions is that they should “never inadvertently give out tax-related information, much less advice,” said Jennifer Osland Hillen, NBOA’s vice president, professional development and business affairs. At this time, the law impacts only account holders and how they choose to pay for independent K-12 education. “It’s up to the 529 account holder to prove the legitimacy and the appropriate timing of the qualified educational expenses,” said Hillen.
Schools are not required to take any action, though they may be in the future. Colleges and universities, for which 529 plans were originally intended, must file a 1098T reporting form. “At this time there is no reason to believe that schools will be required to issue a 1098T reporting form related to 529 disbursements used to pay for school,” said James Sweeney, partner at RSM US LLP. “The school is just accepting payment from a tuition-paying person; nothing has changed from the past, so we don’t anticipate any reporting requirement to burden the school.” However, the independent school industry may be on notice if reporting requirements similar to those in higher ed trickle down to the K-12 arena.
Schools could, of their own volition, change the way they calculate financial aid and payment plan dates in response to the change and to better accommodate families. Because tuition payment plans are based on an academic year and the 529 withdrawals are based on the calendar year, schools may want to ask their tax advisors about changes the payment calendar to better accommodate families’ use of 529 plans.
Financial Aid
Perhaps the most pressing question for independent schools now is how the new tax law will impact financial aid decisions.
"Because the law went into effect in the midst of financial aid season for new families, schools will likely not make any changes to financial aid projections at the current time as a matter of fairness," said Jeff Shields, NBOA's president and CEO. Going forward, “In order to fairly set the formula they use to evaluate all financial aid applications, schools should (within reason) factor in the assets and burdens that each family has,” said Hillen, “while reserving the right to make exceptions based on extenuating circumstances.” In many cases that may mean considering families’ 529 plans.
If they do collect 529 information, schools may factor both the asset balance on hand and the amount the family is deferring annually as part of their financial aid evaluation. Schools may also consider treating 529 contributions as an asset rather than cash on hand or income because these plans have historically been used for longer-term planning. Most financial aid software systems weigh income/cash on hand more heavily to be used in the short-term, and schools don’t want to disadvantage a family.
Some schools may want to use a straightforward, formulaic approach of dividing the asset balance over the remaining years of a student’s education to calculate an annual contribution from the plan. Hillen provided an example: “Assume a student going into 6th grade has a balance of $50,000 in a 529. With 10 years of education remaining (6 more to 12th grade plus 4 years of college), you could factor in $5,000 of the 529 as being available for use this year.” Others may want to consider only the annual contribution of a given year, rather than the balance, which may be intended for long-term growth. Still others may use a family’s 529 circumstances more indirectly. “A family with a 529 plan may, for example, be awarded at 80 or 90 percent of need versus closer to 100 percent,” said Hillen.
It’s probably not reasonable to expect grandparents or other parties to submit 529 documentation to the school unless they’ve signed the enrollment contract, Hillen explained, in which case they will submit all the usual documentation with an application for aid.
Because guidance is grey and families need time to rework their spending and investing strategies, schools may consider treating the first few years of eligibility as a grace period. Beware that families may resist a change in financial aid policy: “Current families may be resentful that they are being asked to tap into the 529, and then will need to take out loans for college,” said Grace Lee, NBOA’s vice president, legal affairs. At the same time, “There could also be resentment on the school’s part if the family feels they have cash on hand to defer into a 529 and yet not to pay current tuition and educational expenses,” added Hillen.
At a minimum, schools should strive to ensure they consistently apply financial aid decisions across all applicants.
NBOA will continue to follow developments involving 529 provisions and their impact on independent schools. Contact Jennifer Osland Hillen with questions or concerns.
