By Laura Saunders 

So-called 529 accounts have gotten a lot more flexible under the new tax law. But there is also a downside.

Named after a section of the tax code enacted two decades ago, 529 accounts allow savers to contribute dollars after federal taxes have been paid on them. The assets are invested and can grow free of federal and state taxes.

Withdrawals are tax-free if they are used to pay eligible education expenses such as college tuition, books, and often room and board.

These plans are popular with middle- and upper-income families. According to the latest data from the College Savings Plans Network, assets in 529 plans grew to $275 billion in 2016 from $106 billion a decade earlier.

Most 529 plans are offered by states, and almost all states have them. Savers dissatisfied with their own state's investment offerings or fees can go elsewhere, although investment options are limited in most states, said Mark Kantrowitz, a college-savings analyst from Chicago.

-- Paying for K-12 education: A big change in the new tax law allows 529 plan assets to be used for up to $10,000 per year, per student, for private-school tuition for K-12.

This change provides savers who have a 529 plan with more flexibility. At the same time, though, private schools will likely want to know about families' 529 savings and may take that information into account when making financial-aid decisions for the 2019-20 school year, according to a spokeswoman for the National Association of Independent Schools.

Those who want to use this new break should also check carefully to make sure that these withdrawals are approved for their specific plan. Several states have clarified that they are, but New York has warned account owners that such withdrawals could have state-tax consequences and that it is still evaluating the new law.

-- Transfers to 529 ABLE accounts: In another significant change, the overhaul also enables savers to transfer funds from 529 plans to 529 ABLE accounts. ABLE accounts are for people who become blind or disabled before age 26 and don't limit the person's access to Medicaid and Social Security income, or SSI benefits.

Like 529 plans, 529 ABLE plans allow assets to grow tax-free. Annual contributions are capped at $15,000, and withdrawals can be tax-free if used to pay expenses such as housing, legal fees and employment training. Total assets in an account can reach $100,000 without affecting SSI benefits.

The recent change allows transfers of up to $15,000 a year from a regular 529 plan to a 529 ABLE account. The ability to make such transfers avoids a significant drawback: that after the disabled person's death, remaining funds in an ABLE account typically go to the state to repay benefits if the person was receiving Medicaid -- as many are.

But the assets of a regular 529 plan needn't go to the state at death. So under the new rules, Mr. Kantrowitz said, someone could fund a 529 account for a disabled person and transfer money from it as needed to a 529 ABLE account. This arrangement offers tax-free growth and perhaps a state-tax deduction, without giving up ownership of assets.

Owners of 529 and 529 ABLE accounts who want to use this new break should check their state plans to make sure that it is allowed.

Write to laura.saunders@wsj.com

 

(END) Dow Jones Newswires

February 13, 2018 12:05 ET (17:05 GMT)

Copyright (c) 2018 Dow Jones & Company, Inc.