How Do 529 Plans Affect Financial Aid?
Learn how your 529 college savings impact financial aid eligibility for higher education, including recent FAFSA changes.
A 529 plan is a tax-advantaged savings plan specifically designed to encourage saving for future education costs. These plans offer unique benefits, such as tax-deferred growth on investments and tax-free withdrawals when funds are used for qualified education expenses. Financial aid generally refers to assistance from various sources, including federal, state, and institutional programs, to help students and families manage college expenses. This aid can come in the form of grants, scholarships, work-study programs, or loans.
529 Plan Asset Treatment on Financial Aid Forms
The way funds held within a 529 plan are assessed as an asset is a significant factor in determining financial aid eligibility, particularly for federal student aid through the Free Application for Federal Student Aid (FAFSA). The ownership of the 529 plan dictates its impact on the Student Aid Index (SAI), which is the number used to determine a student’s eligibility for federal student aid.
Parent-owned 529 plans are considered parental assets on the FAFSA. These assets are assessed at a maximum of 5.64% of their value in the SAI calculation. This assessment rate is relatively low compared to how student-owned assets are treated, minimizing the impact on aid eligibility. For instance, a $10,000 parent-owned 529 plan would increase the SAI by no more than $564.
Even if a dependent student is the account owner or beneficiary of a 529 plan, it is reported as a parental asset on the FAFSA. This includes custodial 529 plans (UGMA/UTMA) for dependent students. This ensures a lower assessment rate compared to other student-owned assets.
For an independent student, if they own a 529 plan, it is reported as a student asset. Student assets are assessed at a higher rate, typically 20% of their value, which can have a more substantial impact on aid eligibility. This higher assessment reflects the expectation that independent students contribute a larger proportion of their own assets towards their education.
Under the FAFSA Simplification Act, effective for the 2024-2025 aid year, grandparent-owned and other non-parent owned 529 plans are no longer counted as an asset on the FAFSA. Their value does not contribute to the SAI calculation.
The assessed value of 529 assets, depending on ownership, contributes to the overall SAI. A lower SAI generally indicates a greater financial need and can lead to more eligibility for need-based financial aid. Understanding these asset assessment rules is important for families planning their college savings strategies.
How 529 Plan Withdrawals Affect Financial Aid
The treatment of distributions, or withdrawals, from a 529 plan is distinct from how the existence of the plan’s assets is considered for financial aid. This section focuses on the impact once money is taken out of the plan.
Distributions from a 529 plan that are used for qualified education expenses are generally not counted as income on the FAFSA. Qualified expenses include tuition, fees, books, supplies, equipment, and room and board for students enrolled at least half-time. These tax-free withdrawals have no negative impact on a student’s aid eligibility, regardless of who owns the plan.
Non-qualified distributions occur when funds from a 529 plan are used for non-educational expenses or if a refund of qualified expenses is not re-contributed. In such cases, the earnings portion of the non-qualified distribution is subject to federal income tax and typically a 10% federal penalty. This taxable income to the recipient could potentially affect their financial aid eligibility in the subsequent aid year.
Prior to the FAFSA Simplification Act, distributions from non-parent owned 529 plans, such as those owned by grandparents, were considered untaxed income to the student beneficiary on the subsequent aid year’s FAFSA. This could significantly reduce a student’s aid eligibility, sometimes by as much as 50% of the distribution amount. This “look-back” period created a disincentive for non-parents to contribute to 529 plans.
Under the FAFSA Simplification Act, effective for the 2024-2025 aid year, distributions from grandparent-owned and other non-parent owned 529 plans are no longer counted as income for the student. This simplifies the aid application process and encourages broader family support for college expenses.
Reporting 529 Plans on Financial Aid Forms
Understanding the practical steps for reporting 529 plan information on the FAFSA is important for families. The way these plans are listed can influence the determination of financial aid eligibility.
Parent-owned 529 plans, including those for which a dependent student is the beneficiary, are reported as a parental investment asset on the FAFSA. Report the total value of all such accounts for all children in the household. The FAFSA requires the current balance as of the day the form is completed.
For dependent students, parent-owned 529 plan information is entered in the parent’s section of the FAFSA. If a family has multiple parent-owned 529 plans for the same or different children, report the aggregated total current balance as a single parental asset.
A key procedural change under the FAFSA Simplification Act is that grandparent-owned 529 plans, or any other 529 plans not owned by the student or their parents, are no longer reported on the FAFSA. This also applies to distributions from these plans, which are no longer considered income for aid purposes. This simplifies reporting for many families and removes a previous barrier to financial assistance from non-parent relatives.