529 Withdrawals Penalties
A 529 college savings plan, including the Massachusetts U.Fund, is one of the best ways to save for college, as it provides many benefits not offered by other savings options. One of the largest benefits of a 529 plan is that when funds from a plan are used for qualified educational expenses, the owner won't pay any taxes on the plan's earnings. Thankfully, the varieties of qualified educational expenses are vast, and include the following:
- Tuition, fees, room, board, books, supplies, and equipment for any undergraduate or graduate program at any eligible college or university
- Tuition expenses at any public, private, or religious K-12 school (up to $10,000 annually)
- Textbooks, fees, and equipment related to apprenticeship programs
- Repayment of student loans (up to $10,000 in total)
If a 529 account holder does take money from a 529 plan for an unqualified expense, there will be 529 withdrawal penalties, most notably tax consequences.
Only the earnings within the 529 plan will be subject to penalties, not what the saver has contributed to the plan. There will be a 10% penalty on the account earnings of the amount withdrawn, and the earnings of the amount withdrawn will be taxed at the owner's rate of income. There are three exceptions to the 10% penalty. In these cases, no 10% penalty will be assessed:
- Death of the beneficiary
- Disability that prevents the beneficiary from using the funds as intended
- Scholarship that erases the need to use the funds
In rare circumstances, there may be other instances in which a non-qualified withdrawal is permitted. If you use 529 funds to pay a college and then receive a refund, you normally have 60 days to redeposit those funds into your 529. Any redeposit beyond that time frame counts as an unqualified withdrawal and triggers potential tax consequences. In 2020, since so many owners received refunds due to campus coronavirus closings, the IRS extended the window to the specific date of July 15, 2020.
Distributions from a 529 plan will trigger a 1099-Q tax form. It is incumbent upon the owner to keep record of how these funds were used. All funds noted on the 1099-Q tax form that were not used for qualified educational expenses should be reported during tax filing.
Please keep in mind that while we share this information to educate savers on 529 plans, we are not tax experts. Please contact your tax professional for specific questions. If you have general questions about 529 plans and qualified educational expenses, you can contact our U.Fund team at (800) 544-2776.