Using a 529 Plan for Graduate School: Pros and Cons

A 529 savings account is a savings vehicle often used by parents and grandparents to pay for their children or grandchildren’s education, but college students shouldn’t rule out using a 529 plan for graduate school.

Many graduate schools and professional schools can be paid for with 529 funds, if they are deemed eligible by the U.S. Department of Education. Still, that doesn’t mean it’s always a good idea.

If you’re considering this option to fund your grad school education, go over these questions to make sure it’s right for you:

What is a 529 plan?

Essentially, a 529 savings account is a tax-advantaged, long-term investment account that can help savings grow at a low cost.

Because 529 plans are not necessarily set up for short-term savings or designed specifically with graduate school in mind, it may be wise to consider a few factors before investing in one.

However, if you already have a 529 plan, you could earmark some of the funds in the account for your advanced education, or you could open an account when you are already in college. There is not a time limit for using your 529 account and it can be passed onto another beneficiary if funds are not used up.

What are the advantages of a 529 for graduate school?

The main bonus of a 529 plan is funds are tax-free when you withdraw them to pay for your education. “The point of 529 Plans is to save on taxes,” said Mackenzie Richards, senior financial consultant at BankRI Investment Services in Providence, R.I. “Some states offer a deduction for contributions, they grow without being taxed, and any withdrawals used for qualified education expenses are also tax-free.”

Opening a 529 account merely to lower your tax burden, may not make sense if you are a college student with a part-time job, or with low earnings. “Most students don’t have sufficient enough income where they need to worry about their own taxes,” Richards said.

However, Ben Birken, a CFP with Woodward Financial Advisors in Chapel Hill, N.C., says he could see an advantage to using a 529 account if:

• You have a high taxable income
• You live in a state where 529 contributions are tax-deductible

“In that case, money that had been earmarked to pay for tuition could be deposited into a 529 plan in order to earn the tax deduction,” Birken said. Instead of investing funds and leaving them to grow, you’d withdraw them right away to pay for college costs. But, he noted, “Given the income profiles of most college students, I would think this would be pretty rare.”

Specifically, if a college student knows that graduate school is in their future, Birken says a 529 savings account could be a smart vehicle to work toward that dream.

“In this case, the time horizon for education expenses is longer than just an undergraduate experience,” Birken added. So you’ll have more opportunities to see savings grow. And you’ll probably be working and get greater benefits from 529 tax breaks.

What are the downsides?

“Although college students can certainly utilize 529 plans for qualified education expenses (think tuition, fees, room and board, and books), it may not be the best decision to open one with your high school graduation money,” Richards said.

That’s because as an investment account, funds in a 529 are held in stocks. And as with any investment, Richards said, “There is always the risk of your account value dropping.”

If such a drop coincides with the timing for when you’d need to withdraw funds, you could lose money. “Like any investments, 529 plans make the most sense when you have time to ride out any short-term volatility in the markets,” said Richards.

So, you might want to plan ahead if you believe graduate school is in your future to give your money time to grow.

And similarly, you’ll likely want to cash in your 529 once you do get to grad school.

“By the time tuition is due, we suggest that most of our clients exit almost completely out of stocks in their 529 plans,” said Birken. “The risk of a significant decrease in value right when the funds might be needed for tuition is too great.”

If you’re willing to try to eke out some last-minute gains on college savings in a 529, just be aware of the risks. Even if you choose to move your money into a more stable asset, Richards said, “it is still smart to keep the education money separate from everything else.”

Look for options to save for college besides a 529, such as a certificate of deposit or a high-yield savings account.

How do 529s impact other financial aid?

Your assets, including a 529 account in your name, will affect your eligibility for aid.

“A 529 savings account allows you to build an education fund within an individual investment account,” said Ronald Ramsdell, founder of College Aid Consulting Services. “Money you contribute is invested in one or more specific investment portfolios.”

You’ll have to list your financial information and assets on your FAFSA for graduate school. Therefore, a 529 account in your name could lower the amount of financial aid you’re granted more than if your parents held it.

“I recommend families create the account in the parent’s name,” Ramsdell said. “The three formulas colleges utilize to determine how much financial aid a student may receive will assess students’ assets much higher than the parents’ assets.”

Funds can be transferred from child to child or even a grandchild. Parents who have more than one 529 plan for their children can move funds from one beneficiary to another. If there is money left over in an account, or if one of the recipients ends up not going the college route, that money can be used for another child’s graduate school costs.

Who’s best suited to use a 529 plan graduate school?

Overall, a 529 account might not be the most beneficial option for college students. That being said, students interested in working through college or saving for a degree they won’t start for a few years might find a 529 savings plan to be a good choice.

Any funds left over in a 529 fund for undergraduate education could be used for graduate or professional schools. If you don’t have access to a 529 or if you are unable to fund one for a few years while you plan for graduate school, there are many other ways to pay for graduate degrees.

Many graduate students receive teaching fellowships at their universities. Or, you could find a job that offers tuition reimbursement. Research grants and graduate assistantships are sometimes part of a financial aid package, too.

Using a 529 plan to pay for graduate school can be done under the right conditions, but don’t worry if one won’t work for you. There are other possibilities to help you get an advanced degree.