|Will I be penalized if the money in my 529 plan isn't used
for college expenses?
Yes. Whether your 529 plan is a college savings plan or a prepaid
tuition plan, the money you withdraw must be used for qualified higher
education expenses. These expenses include tuition, fees, books, and room and
board (if the beneficiary is attending school at least half-time) for college
and graduate school.
If you use the money for any other purpose, the earnings
portion of the distribution will be taxable on your federal (and possibly
state) income tax return in the year of the distribution. Also, you generally
must pay a 10% federal penalty on the earnings portion of your
distribution. There are a couple of exceptions. The penalty is usually not
charged if you terminate the account because your beneficiary has died or
become disabled, or if you withdraw funds not needed for college because your
beneficiary has received a scholarship.
Bear in mind that the "distributee" is the one subject to
tax. (The distributee is the person who actually receives the money from the
529 plan.) In most situations, this will be the account owner. So, if you fund
a college savings plan for your son, for example, and withdraw the money three
years later (before he reaches college age), you will be the one taxed
and penalized. However, some plans specify who the distributee is, while others
allow the account owner to determine the recipient of a nonqualified
Note: Investors should consider the investment objectives,
risks, charges, and expenses associated with 529 plans before investing. More
information about 529 plans is available in each issuer's official statement,
which should be read carefully before investing. Also, before investing,
consider whether your state offers a 529 plan that provides residents with
favorable state tax benefits.