Tax strategies for college savings and gifting

Whether you’re saving for your own child’s education or helping a grandchild, or loved one, pay for school, there are several tax-advantaged strategies to consider. 

For example, 529 plans offer attractive tax benefits, and gift tax rules provide generous exemptions for college tuition. But what’s right for your financial situation and student?

Along with your tax professional, an Ameriprise financial advisor will help you navigate complex IRS rules to help ensure that your college savings plan is tax efficient and meets your financial goals. 

In this article

• 529 plans – gifting and tax considerations
  •  Who can give to a 529 plan?
  • How does a 529 plan provide tax benefits to the beneficiary?
  • How are gifts to a 529 plan taxed?
  • State tax benefits
• Estate planning strategies for grandparents
  • Superfunding strategy
  • Tuition exemption for gift tax exclusion
• How college savings gifts may affect financial aid
  • FAFSA considerations
  • CSS Profile considerations
• Tax credits and deductions
  • American Opportunity Tax Credit
  • Lifetime Learning Credit
  • Student loan interest deduction
• Questions to ask your Ameriprise financial advisor

529 plans — gifting and tax considerations

Who can give to a 529 plan?

Anyone — a parent, family friend or extended family member — can contribute to a 529 plan.

As a tax-advantaged savings account specifically designed for educational expenses, a 529 college savings plan gift can provide tax benefits to those who want to help with a child’s education expenses. 

How does a 529 plan provide tax benefits to the beneficiary?

A 529 plan allows you to contribute after-tax money into an investment account on behalf of a designated beneficiary (usually your child, but it could be a grandchild, niece, nephew, family friend or even you). The money grows tax-deferred, and withdrawals are tax-free if the distributions are used for qualified education expenses.

Qualified education expenses include:

• The full cost of tuition, fees, books, computers and related equipment and room and board (assuming the student is attending at least part-time) at any college or graduate school in the U.S. or abroad accredited by the U.S. Department of Education. 
• The cost of certified apprenticeship programs registered with the U.S. Department of Labor.
• Student loan repayments (up to a $10,000 lifetime limit per beneficiary and $10,000 per each of the beneficiary's siblings).¹
• K-12 tuition expenses up to $10,000 per year.

How are gifts to a 529 plan taxed?

Though 529 plan contributions are considered gifts for federal tax purposes, you can contribute up to a certain amount per year without incurring gift taxes.

For 2023, these limits are:

• $17,000 per donee per year
• $34,000 for spouses who join in the gift²

State tax benefits

More than 30 states now offer a state income tax deduction or tax credit for 529 plan contributions. However, in most cases you must contribute to your home state’s 529 plan to qualify for the benefit. A few states, however, allow you to claim a state tax benefit for contributions to any state’s 529 plan. Resources such as the College Savings Plan Network offer tools to see the tax deductions available in your state and compare 529 plan options. Work with your tax advisor to determine an appropriate option for your circumstances. 

Estate planning strategies for grandparents

For those looking to remove assets from a taxable estate while also funding a loved one’s education, the following college savings gift options can be valuable strategies:

Superfunding (also known as forward-gifting) strategy

Under special rules unique to 529 plans, you can gift a lump sum of up to five times the amount of the annual gift tax exclusion — $85,000 for individual gifts or $170,000 for joint gifts in 2023 — and still avoid the federal gift tax. To do so, you must elect to spread the gift evenly over five years on your tax return. A person who chooses to take full advantage of the five-year spread for 529 plans would not be able to give additional gifts to that person during the five-year period without filing a gift tax return, unless the gift tax exclusion were increased, such as through an inflation adjustment in a subsequent year.

Tuition exemption for gift tax exclusion

In addition to superfunding, another way grandparents can preserve their gift tax exclusion — and potentially remove assets from their estate — is writing a check directly to their grandchild’s school.

Tuition payments made directly to a college are not considered gifts for tax purposes, nor do they count toward the annual gift tax exclusion or use up any of the grandparents’ lifetime gift tax exemption. However, the exclusion only applies to tuition payments and not for other college expenses like books, supplies or even room and board.

• Learn more: 529 plans: frequenty asked questions

How college savings gifts may affect financial aid

FAFSA considerations

Assets owned by grandparents (or anyone other than a custodial parent) that will be used for college — like a 529 plan — don’t need to be reported on the FAFSA. 

In previous years, money distributed to the student or spent on their behalf had to be reported as untaxed income, which in some instances, significantly impacted the amount of aid the student was eligible for. But starting in 2022, money distributed to the student or spent on their behalf by nonparents is no longer reported as untaxed income and doesn’t impact the amount of aid the student will be eligible for. 

(Note that because the FAFSA considers distributions received from anyone other than a parent two years prior to the year of filing as the basis for aid calculations, distributions from 2020 and 2021 will be reported on the FAFSA over the next two years.)

CSS Profile considerations

The College Scholarship Service (CSS) Profile, meanwhile, counts all 529 plans that list the student as a beneficiary, regardless of the account owner, in its asset calculations. The CSS Profile also includes a sibling’s 529 plan (at least those under age 19 and not yet in college) when determining expected family contribution.

• Learn more: FAFSA and the CSS Profile: What are they and how do they work?

Tax credits and deductions

There are several federal tax incentives aimed at offsetting the financial cost of higher education:  

• American Opportunity Tax Credit: This partially refundable credit is worth up to $2,500 for tuition and related expenses for the first four years of undergraduate education, provided the student is enrolled in school at least part-time. The credit is subject to income limitations and other eligibility requirements, and it can’t be claimed for the same expenses paid for with a distribution from a 529 plan. 
• Lifetime Learning Credit: This credit can be claimed for tuition and fees for undergraduate, graduate or professional degree courses taken throughout a student’s lifetime. Students can claim 20% of the first $10,000 of qualified educational expenses (listed in the student’s 1090-T, Tuition Statement) up to $2,000, and there is no limit on the number of years a student can claim the credit. However, this credit is phased-out at certain income levels. Though the credit is not refundable, it is a credit against taxes owed. Importantly, the Lifetime Learning Credit and the American Opportunity Credit can't be claimed in the same year for the same student. 
• Student loan interest deduction: If you’ve graduated with student loans, this deduction allows you to deduct up to $2,500 of the interest you pay on student loans each year, depending on your household income.

Optimize your college saving and gift giving for taxes

Whether you are a parent or grandparent saving for college, or are just looking to help a loved one pay for school (without hurting their chances of getting financial aid), your Ameriprise financial advisor will help you craft a tax-advantaged strategy that works for them — and for you and your financial goals.