How Does the Montana 529 Tax Deduction Work?
Understand the financial mechanics of the Montana 529 tax deduction, from how it reduces state income tax to the long-term rules for withdrawals.
A 529 plan is a savings account, named after Section 529 of the Internal Revenue Code, that offers tax advantages to help funds grow for future education costs. While the federal government provides tax benefits, Montana offers its residents an additional state income tax deduction for contributions to a 529 plan. This deduction directly reduces a taxpayer’s Montana taxable income.
Eligibility for the Deduction
To qualify for the Montana 529 tax deduction, the contributor must be a Montana taxpayer who files a state income tax return. Any individual, including parents or grandparents, can contribute to a qualifying account.
As a “tax parity” state, Montana allows taxpayers to claim a deduction for contributions made to any state-sponsored 529 plan. This means a Montana resident can contribute to a plan from another state and still be eligible for the Montana income tax deduction, providing flexibility in choosing a plan that best fits their needs.
The deduction is claimed by the person who makes the contribution, not the account owner or the beneficiary, unless they are the same person. To be eligible, the contribution must be made to an account owned by the taxpayer, their spouse, or their child or stepchild who is a Montana resident.
Contribution Limits and Deduction Amounts
An individual taxpayer, including those who are married but file separately, can deduct up to $3,000 per year. For married couples who file a joint tax return, the maximum deductible amount is doubled to $6,000 annually. These limits apply per taxpayer, not per beneficiary, meaning the total deduction cannot exceed these amounts regardless of how many separate 529 accounts are funded.
If a taxpayer contributes more than the maximum deductible amount in a single tax year, the excess contribution cannot be carried forward to be deducted in future tax years.
Claiming the Deduction on Your Tax Return
To claim the deduction, Montana taxpayers report their eligible 529 plan contributions on the “Montana Additions and Subtractions” schedule, which is part of the state income tax return, Form 2. On this schedule, the taxpayer enters the contribution amount, up to the annual limit.
The contribution deadline is December 31, and contributions must be postmarked by this date to be eligible for that tax year’s deduction. While you do not need to submit contribution statements with your tax return, it is important to retain them for your records.
The 529 plan administrator provides a year-end statement summarizing all contributions. This document serves as proof of your contributions and is necessary to substantiate the deduction in the event of an audit from the Montana Department of Revenue.
Rules for Withdrawals and Recapture
Withdrawals from a 529 plan are either qualified or non-qualified. Qualified withdrawals are used for approved education expenses like tuition, fees, and books, and are tax-free at the federal and state level. A non-qualified withdrawal is any distribution used for other purposes and has distinct tax consequences.
A rule tied to the Montana tax deduction is the recapture provision. If a non-qualified withdrawal is taken, any portion of it corresponding to previously deducted contributions must be added back to the taxpayer’s Montana adjusted gross income in the year of the withdrawal. This process reverses the initial tax benefit.
This recapture rule also applies if funds are rolled over to another state’s 529 plan. The state may also recapture the tax deduction for contributions if a withdrawal is made from an account that was opened within one year of the withdrawal date. This rule prevents using the plan for short-term tax avoidance.