Tax ARTICLE - 3 Hot Education-Funding Tips for 2007

Practical Perspectives Key financial issues for you and your family

Jeffrey and Marcene like to stay informed. Yet when endeavoring to learn about how to fund their young daughter’s college education, they were quickly overwhelmed by their options. Wisely, they sat down with their financial advisor for help narrowing down some of the hot education-funding tips of 2007.

Their advisor nodded knowingly when Jeffrey and Marcene mentioned how much information they had to wade through when contemplating education funding. Fortunately, she was able to fill the couple in on three important education-funding changes that have made news in the past year or so.

1. 529 plans still tax free

There has always been some uncertainty about whether Congress would allow 529 plans’ tax-free treatment to expire. Jeffrey and Marcene’s advisor clarified matters: The Pension Protection Act of 2006 permanently extended the Section 529 provisions regarding these vehicles.

The most well known type of 529 plan is the college savings plan, in which they can set money aside to pay their daughter’s qualified higher education expenses. The other type is the prepaid tuition plan, with which they can secure future tuition at today’s prices, regardless of how much tuition increases.

529 college savings plans tend to be popular because funds invested in them grow tax free. And as long as withdrawals are used for their daughter’s qualified college education expenses, they’re tax free as well.

2. Education credits continue to increase

With Jeffrey and Marcene focusing so hard on funding vehicles, their advisor urged them not to overlook the Hope credit and the Lifetime Learning credit.

Jeffrey and Marcene may be able to claim a Hope credit for the first two years of their daughter’s post secondary education. For qualified tuition and related expenses required for enrollment on at least a half-time basis, the maximum credit, adjusted annually for inflation, is $1,650 per student for 2007 and will likely be much higher by the time their daughter is in college.

Similarly, they may be eligible for the Lifetime Learning credit of up to $2,000 per taxpayer for an unlimited number of years of postsecondary, graduate and certain other education expenses. If Jeffrey and Marcene’s joint income is too high to qualify for either credit, their daughter may be able to claim it.

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3. IRS permits tax-free prepaid tuition

Jeffrey and Marcene mentioned that their daughter’s grandparents may want to contribute financially to her education, too. This reminded their financial advisor of a recent IRS Private Letter Ruling (PLR), No. 200602002, in which the IRS permitted a taxpayer to prepay tuition for his six grandchildren through 12th grade — without triggering estate, gift or generation-skipping transfer (GST) taxes.

She went on to say that, though a PLR applies only to the taxpayer who requested it and sets no legal precedent, this one provides guidance on how the IRS may rule in similar cases. And many generous grandparents are considering the estate planning benefits of prepaying their grandchildren’s college tuitions.

The main disadvantage of the technique, besides its legal uncertainty, is that it tends to be somewhat inflexible. It’s vital, therefore, to understand the rules. For example, there’s no guarantee the money will be returned if the child doesn’t attend college.

Thinking ahead

When it comes to funding a college education, it certainly pays to stay informed. Jeffrey and Marcene did just that — and you should, too.

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