The 529 prepaid tuition plans let people purchase credits at certain schools that are then used in the future for a student's education. By purchasing credits ahead of time, parents and students lock in current tuition rates to protect from future tuition increases. All 529 prepaid plans cover the cost of tuition and associated fees; some also allow the purchase of credits toward room and board expenses. These plans may be set up as a lump sum payment arrangement or through installment payments. Additionally, 529 prepaid tuition programs often allow the flexibility of purchasing two-year tuition at community colleges, programs at four-year universities, or a combination of both. Many plans allow financial planning for one to five years worth of tuition, and, in some cases, provide prepayment for graduate school courses.
A 529 plan is authorized by the Internal Revenue Service as a federal tax-exempt program. Many states also deem a 529 plan exempt from taxes. Withdrawals remain free from tax if the money is used for college expenses such as tuition and room and board. Money from a 529 plan is subject to income tax and an additional federal penalty of 10 percent should the funds be withdrawn for any uses other than qualified college expenses. Some states provide matching grant funds and other benefits to those participating in a 529 prepaid tuition program.
Owners of 529 prepaid tuition plans maintain control over the money in their account indefinitely. In many cases, the beneficiary may be changed to another member of the family should one child receive a scholarship or decide not to attend college. Additionally, the owner of the plan can become the beneficiary. If multiple family members have individual plans, assets may be transferred from one plan to another without incurring federal tax. If a beneficiary has two prepaid tuition arrangements, money may be transferred from one plan to the other within any year. Family members considered a beneficiary's spouse are a son, daughter, grandchild and nieces, nephews, and first cousins.
Many states require the owner of the 529 prepaid tuition plan, or the student named as the beneficiary, to be residents of the state providing the arrangement. Enrollment in some plans may be limited to specific times each year. Most 529 programs also have age and grade level restrictions for beneficiaries. Furthermore, participating in a prepaid tuition plan will affect a student's eligibility for other financial aid programs. These types of programs also often charge administration and enrollment fees. Some states impose a tax on 529 program transfers.