Upcoming 529 Regulations Proposed In IRS Notice
New proposed regulations on 529 plans are in the works, including proposed new rules relating to gift and estate tax implications of withdrawals from accounts and changes in designated beneficiaries. The regulations will seek to stop abusive transactions that may otherwise be able to be undertaken under a literal reading of section 529. The Internal Revenue Service and Treasury will make changes in the treatment of these tax-free transactions to avoid aggressive strategies using 529 plans for purposes other than college savings.
Estate planning is high on the list of unintended uses for 529 plans. Because these accounts operate like tax-free mutual funds, investors have the potential to use the funds for reasons other than college savings.
In order to prevent potential abuses in 529 plans, a provision in the 2006 Pension Protection Act mandated that regulations be developed. The IRS is doing this to focus on the “potential” for abuse and caution that if they find these types of transactions actually occurring, more restrictions on all 529 plans will be made.
As part of its plan to prevent abuse, the IRS is considering taxing non-qualified distribution to the account owner except to the extent that the account owner can show that she is withdrawing her own contributions to the account. This change could discourage grandparents and other third parties from making contributions directly into someone else’s 529 account unless the contributor fully expects the funds to be used for the designated beneficiary’s qualified higher education expenses.
Less controversial proposals being made in the notice pertain to issues such as clarifying whether the account balance is includable in the estate of the beneficiary after the beneficiary’s death and change in the “deemed gift” rules when the beneficiary is changed to a lower-generation beneficiary: the gift will be from the account owner and not from the former beneficiary.
The notice about the proposed regulations indicates that amounts withdrawn in any year to pay qualified higher education expenses must be expended by March 31st of the following year to be treated as spent for qualified higher education expenses.
In order to prevent potential abuses in 529 plans, a provision in the 2006 Pension Protection Act mandated that regulations be developed. The IRS is doing this to focus on the “potential” for abuse and caution that if they find these types of transactions actually occurring, more restrictions on all 529 plans will be made.
As part of its plan to prevent abuse, the IRS is considering taxing non-qualified distribution to the account owner except to the extent that the account owner can show that she is withdrawing her own contributions to the account. This change could discourage grandparents and other third parties from making contributions directly into someone else’s 529 account unless the contributor fully expects the funds to be used for the designated beneficiary’s qualified higher education expenses.
Less controversial proposals being made in the notice pertain to issues such as clarifying whether the account balance is includable in the estate of the beneficiary after the beneficiary’s death and change in the “deemed gift” rules when the beneficiary is changed to a lower-generation beneficiary: the gift will be from the account owner and not from the former beneficiary.
The notice about the proposed regulations indicates that amounts withdrawn in any year to pay qualified higher education expenses must be expended by March 31st of the following year to be treated as spent for qualified higher education expenses.