Incorporating Savings for College in your Estate Plan

The cost of higher education in the United States is staggering and is climbing rapidly each year.  This fact combined with the scheduled dramatic reduction in the Estate Tax Exemption starting on January 1, 2011 causes many clients to think about planning for their children's or grandchildren's future college expenses in the course of addressing their Estate Planning.

One of the simplest ways to reduce the future impact of the Estate Tax is to make gifts.  If you have a smaller estate at death, there is less for the IRS to possibly tax.  However, there are two primary concerns that arise when contemplating making gifts to children or grandchildren to fund future college expenses as a way to reduce the impact of potential Estate Tax.

First, many parents and grandparents are not keen on the idea of giving children direct access to thousands of dollars.  As soon as the children or grandchildren turn 18, they're likely headed directly to the Porsche dealer.  Second, generally there are limits placed on how much donors can give away each year without impacting their Estate Tax Exemption.  Currently, the limit is $13,000 per year per beneficiary.

A solution that navigates both of these concerns is a § 529 College Savings Account ("CSA").   In a CSA, a contributor funds an account for purposes of meeting the qualified higher education expenses incurred by a beneficiary in the future.  Distributions made for qualified educational expenses are tax-exempt.   The contributor is typically the account owner, and retains significant controls over the account, including the ability to control distributions, to change the beneficiary, and to reacquire the assets in the account.  Contributions are not deductible for federal income tax purposes but are treated as completed gifts.  In addition, a special provision applicable only to CSA's allows a contributor to fund an account with an amount equal to 5 years' worth of $13,000 annual exclusions at one time, and elect to treat the contribution as if it were being made pro rata over 5 consecutive years.

Because the account owner holds such significant controls over CSA's, an individual's CSA should be considered at every estate planning juncture.  For example, if an account owner dies, who has control over the CSA?  This problem can be resolved by either naming a successor owner or by transferring ownership of the CSA into a Revocable Living Trust.  Any such Trust should have special provisions concerning the management and investment over the CSA.  Additionally, the specific CSA account agreement should be consulted to ensure that the particular plan allows for either successor owners or Trust ownership.