College Education Funding: The “Gracious Grandparent” Technique
Sometimes the retail solution is the best solution. Take tax incentives for higher education. We can argue until the cows come home as to who actually benefits from such incentives – the taxpayer or the institution. Nevertheless, we can also agree that the taxpayer is harmed if s/he does not take advantage of them. But. most of the incentives are what I call “tax gimmee’s” – they produce a nice, after-the-fact perk but do little to incentivize saving for college. They are not planning opportunities per se; they are rewards for meeting certain income and educational criteria. Into that bucket I toss the American Opportunity credit (up to $2,500), the Lifetime Learning credit (up to $2,000) and the student loan interest deduction (up to $2,500). So, if you qualify, take ‘em, but don’t call ‘em planning opportunities. Nobody has ever financed college based on these gimmee’s. 
Now, the 529 plan is a completely different story and is the “retail” solution to which I alluded above. 529 plans, creatively named after the Internal Revenue Code section that spawned them, come in a number of different flavors. “Savings plans” are like 401(k) plans (another creatively named technique) in that the grantor socks away a slug of cash, invests it, and ends up with a market return. “Prepaid tuition plans,” on the other hand, are like pension plans – you put in a certain amount of cash and at the end of the cycle, voila, the tuition to a particular institution is locked in. The common denominator is that the investment is tax sheltered during the build-up period and is withdrawn tax-free if used to pay qualified higher education expenses. You can comparatively examine the various plans in the 529 universe at www.savingforcollege.com.
The reason I am so high on 529 plans? They are for everyone – there is no income ceiling that limits participation. And, while there is a cap as to the amount you can contribute, that cap is pretty high. The grantor can set up a fund to benefit whomever s/he pleases, and within limits, can change the beneficiary designation without any adverse tax impact at any time. Because contributions to 529 plans are considered present interest gifts, they qualify for the annual gift tax exclusion to the extent of $14,000 per beneficiary [1]. But wait, there’s more – this is the “gracious grandparent” technique at work here – grantors can front end load their gifts by funding up to five years’ worth of annual exclusions provided that they do not use the annual exclusion for other gifts during that time period. So, assuming that they split the gift, grandma and grandpa can make a gift tax-free transfer of $140,000 today into a tax free 529 plan for that newborn angel. Multiply that by “x” number of grandchildren and you can see the power of the “gracious grandparent” technique for both college savings and estate planning purposes.
By the way, you don’t have to be a grandparent to employ this technique. Aunts, uncles, even parents – it is powerful stuff.
I have only scratched the surface here and there are many caveats and nuances. However, suffice it to say, the 529 plan should be a consideration in every family’s wealth planning.
[1] Or $28,000 if a married couple elects to split gifts.
