529 Insanity

By Dr. Jim Dahle, WCI Founder

I keep running into discussions relating to 529 accounts that make me shake my head for various reasons. The whole point of a 529 is relatively straightforward. It is a tax-advantaged account used to save for education. Like a Roth IRA, after-tax money is contributed, and principal and earnings come out tax-free and penalty-free when used for approved education expenses. Many states offer an additional deduction or credit for contributions up to a certain amount.

Straightforward, right? You would think so. Until you talk to people who are actually using these things. Nobody seems to be using them the way I use them, which I would argue is the way they were intended to be used. I manage more 529s than anyone I know. I have 35 of them. I contributed to 30 of them this year, and I am withdrawing money from about six. I've been contributing to 529s for over a decade and withdrawing from them for at least four or five years. I know the ins and outs of how to use a 529.

It's a college savings account. It works well. But here are three things you may not know about this subject that I think you should.

#1 College Costs What You Are Willing to Pay

College, like automobiles and weddings, costs what you are willing to pay. Include K-12 in that total, and it's entirely possible to get the educational bill for one child up to $1.5 million. Just pay $48,000 a year from kindergarten to 12th grade, $100,000 a year at an Ivy League, and $120,000 for some ridiculously expensive dental school. It's possible, right?

On the other hand, the tuition bill at most of the schools in my state, including my alma mater, ranges from $3,000-$13,000 a year. Add in living expenses and the cost of attendance is in the $18,000-$28,000 per year range, cheaper if you live at home.

It's really up to you. You can spend $100,000 educating a child, or you can spend $1.5 million. Does the $1.5 million get you a 15X better education? No, it does not. It may get you a better education, maybe 15% better. But it's definitely not 15X better. There's no way the ROI is there to spend an extra $1.4 million for the vast majority of pupils. Ask your 18-year-olds if they would rather have had a private school education or $1.5 million handed to them as they left home. I can tell you what mine would choose. (No, they're not getting $1.5 million in their 20s funds.) Remember, $1.5 million at 18 will double a lot of times before age 65.

=FV(8%,47,-1500000) = $56 million

Even using a more reasonable 5% real, that's still $15 million. Talk about generational wealth.

#2 The 529 Doesn't Have to Pay for Everything

You don't actually have to save up for college in advance. At inexpensive schools, many doctors can afford to cash flow the entire cost of education as they go. No advanced saving is needed at all. Plus, many kids will qualify for scholarships. They may work during the school year or during the summers. Some people even think it's good for the kids to have a small loan or two to pay off afterward to teach responsibility and to have a little skin in the game.

But the 529 fanatics don't seem to know or care about any of that stuff. They think that it all has to be saved in advance and that it has to all be there on the day the kids start college. No, if you go to school for 4-8 years, that's 4-8 years more that your money will be working for you. And it's not like colleges only accept 529 money. I assure you that if you sell a few ETF shares from your taxable account and write them a check, they'll cash it.

More information here:

When Is It Too Late to Contribute to a 529?

3 Reasons Why You Can Take More Risk with a 529

Despite Our Student Loan Debt, Here’s How We’re Filling Our Kids’ 529s

#3 You Cannot Max Out 529s

I see people trying to max out 529s all the time. Here's an example:

“First time contributor to Utah's my529, I am the account owner. My spouse and I are trying to contribute the full gift tax exclusion for 2024, but trying to figure out if we need to file IRS form 709 in the following cases:

1. I contribute $36,000 as the account owner from a joint checking account with my spouse directly
2. I contribute $18,000 as the account owner and send my wife the ‘gift link' for her to contribute her $18,000, all from the same joint checking account?”

Other examples include people trying to contribute five years' worth of contributions all at once (which is allowed) and people starting 529s in the parent's name before the kids are even born and then later changing the beneficiary to the kid if and when they have a child. Sometimes, these people don't even have a romantic partner yet. It's like they're worried about one of two things:

1. They won't have enough to pay for college or
2. They won't be able to max out the benefits of a 529

If the concern is the former, I would refer you to #1 and #2 above. And we can do some basic math, too. Let's say you contribute $18,000 per year for 18 years and it earns 8% a year. What will that likely be worth in 18 years?

=FV(8%,18,-18000) = $674,104

That's almost $700,000 at the beginning of college. It might be over a million by the time they finish their education unless they're one of those rare folks who go to a really expensive undergraduate school followed by dental school and never qualify for any sort of scholarship. Most people aren't going to figure out a way to spend $700,000 on their education.

No need to start before they're born. No need to somehow get more in there than the gift tax exclusion limit for the year [$19,000 per person for 2025].

A Personal Example

Allow me to share a very personal example of how easy it can be for a doc to save up more than enough for college. As I write this in December 2024, I have a high school senior who is choosing between a school with a cost of attendance of $22,000 a year and one for $28,000 a year but who will likely qualify for a significant scholarship at both places. She has $166,000 in her 529—$101,000 of contributions and $65,000 worth of gains. Barring a change in her educational plans to something like dentistry, she clearly already has an overfunded 529.

It's entirely possible she will graduate from college with a 529 worth over $200,000. How did it get to $166,000? Pretty boring actually. It's been invested in the Utah 529 in an aggressive 100% stock allocation. The allocation has mostly been:

• 50% Vanguard Total International Stock Market Index Fund
• 25% Vanguard Small Cap Value Index Fund
• 25% DFA Small Cap Value Index Fund

Contributions were as follows:

• 2007: $2,000
• 2008: $2,000
• 2009: $2,000
• 2012: $95.10
• 2013: $3,680
• 2014: $3,720
• 2015: $3,800
• 2016: $3,800
• 2017: $4,000
• 2018: $15,000
• 2019: $15,000
• 2020: $15,000
• 2021: $15,000
• 2022: $16,000

Weird transaction history, right? The first three years were actually to a Coverdell ESA. That was before we were Utah residents and qualified for a 529 tax break. Then we basically didn't contribute for three years. For the next five years, we contributed the maximum amount that would qualify for a Utah state tax credit.

In 2018, our eldest started talking about medical school and we had a lot more income, so we started making a contribution equal to the gift tax exclusion limit for one of us. That continued for five years. In 2023, we realized we were likely already overfunded in all the 529s and quit contributing to them. The moral of the story is that even if you can't put all that much in there for a lot of years or if you start late or don't invest it exactly right, you can still get to a six-figure 529 without too much trouble. Certainly, it can be done without any heroic efforts or secret loopholes.

What Is the Real Max?

Now, let's talk about the latter issue, i.e. those people worried about not maxing out the potential benefits of a 529. Let's talk about what the REAL max is for a 529, and no, we're not going to mess with the complicated math involved in doing five years of contributions at once (aka superfunding it), which would further boost these totals. Let's say both you and your spouse open a 529 in your state for your child. And you BOTH put the 2024 gift tax exclusion amount in there every year from birth to age 18. As shown above, the equation looks like this:

=FV(8%,18,-18000) = $674,104

Double that and you get to nearly $1.35 million. That's enough to cover 13 years of expensive K-12, the most expensive college in the country, and four years of dental school. But the truth is that your 529 wouldn't let you put that much into it. They all have a “maximum amount” after which you are no longer allowed to contribute to the 529. In Utah in 2024, that amount is $574,000. Once the account hits that amount, you can no longer make additional contributions to it. But that's a Utah-specific amount. And each state has its own and doesn't care how much you have in 529s of another state. If Utah will no longer let you contribute, you just go down the (online) road and open a Nevada 529 and contribute there.

In fact, there's nothing keeping you from doing that from day 1. Sure, there's the gift tax thing, but the truth is there is no actual tax associated with a gift tax return until you use up your estate tax exclusion amount. In 2025, that amount is $13.99 million per person and $27.98 million for a couple. That's right. You can contribute over $27 million to 529s for your precious little darling before you have to pay any gift taxes on it.

If you open two accounts in all 50 states and put $18,000 into each one for 15 years, how much will it grow?

=FV(8%,15,-36000*50) = $49 million

Let it grow for another three years, and they'll have $62 million. By the time they graduate from dental school, they'll have $115 million in there. Let it ride for 30 years until the dentist's kids are ready to start college, and there'll be $1.16 billion in 529s.

What's my point? My point is you aren't even CLOSE to maxing out the benefits of 529s, so quit trying. If you're not using the money for college, you're probably better off investing it in a taxable account anyway. It has lower fees, long-term capital gains tax treatment, and no 10% penalty. I suppose if you don't know how to invest tax-efficiently in a taxable account, it's entirely possible that you'll come out ahead using 529s to create generational wealth despite the additional fees, taxes, and penalties. But that's nothing compared to the complexity of managing 100 529 accounts across 50 states. And imagine if you have more than one kid.

More information here:

How Much Should You Sacrifice to Pay for Your Child’s Medical School Education?

How Much to Save for College

Don't Invest for Retirement in a 529

Not convinced? Want to see the numbers showing 529s aren't for non-college costs? OK, let's run the numbers. Let's compare investing for 40 years in a taxable account to investing for 40 years in a 529. Let's assume a 23.8% LTCG and qualified dividend rate and a 37% ordinary income tax rate. We're going to ignore ACA subsidies and IRMAA. We'll assume a 529 fee of 0.11% and 8% pre-fee, pre-tax returns. Returns in the 529 will be 8%-0.11% and the returns in the taxable account will be 8% – 23.8% * a dividend yield of 2% or 7.52%.

You've got $1 million you can either invest in a very simple way in taxable or you can invest it across a bunch of 529s.

Taxable

=FV(7.52%,40,0,-1000000) = $18.179 million

The basis is probably something like $2 million so applying 23.8% to $16.179 million leaves us with an after-tax total of roughly $14.3 million.

529

=FV(7.89%,40,0,-1000000) = $20.9 million

Apply the 37% tax rate and 10% penalty to all but the first million and you get $11.5 million

You come out $3 million behind using the 529, and that's giving the 529 every benefit of the doubt I could. That doesn't even consider all the “tricks” of a taxable account, like tax-loss harvesting, donating appreciated shares to charity, and the step up in basis at death. No, it does not make sense to save for non-educational expenses in a 529.

What to Do with an Overfunded 529

The best use for an overfunded 529 is to change the beneficiary and use it for the new beneficiary's education. In our case, assuming our kids have kids, their overfunded 529s will be a significant (or possibly complete) college savings fund for the grandkids. There are other options, though. If your kid gets a scholarship, you can withdraw an equivalent amount from the 529. The Secure Act 2.0 introduced a $35,000 529 to beneficiary Roth IRA rollover, which can be a big help with slightly overfunded 529s. Otherwise, the option is to withdraw the money, pay the taxes and penalty, and buy a sailboat with it.

The Bottom Line

The next time you start hearing someone spewing 529 insanity, remember these principles:

• 529s are college savings vehicles.
• Save for retirement first (Your kids can get loans for college just like you did, but you can't get loans for retirement. If you're on track for your retirement goals, then you can save some for college, too).
• College costs what you're willing to pay.
• The 529 doesn't have to pay for everything.
• You cannot max out 529s.
• Those 529 insanity proponents are going to have some tough overfunded 529 decisions to make in a few decades.

Nod your head, and move on to the next conversation.

What do you think? Why do people get so carried away with acquiring huge 529s? What's your 529 savings goal and how close are you to reaching it? How did you set that amount? Have you opened more than one 529 for a single child? Why or why not?

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