Saving for a Grandchild’s Education Expenses

• 8 min read

Lower your taxable estate and transfer significant wealth without paying gift and estate taxes.
Lower your taxable estate and transfer significant wealth without paying gift and estate taxes.

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Lower your taxable estate and transfer significant wealth without paying gift and estate taxes.

Helping to pay for college can be a particularly satisfying opportunity for grandparents. Not only do they gain the fulfillment of contributing to their grandchildren’s education, but they also can obtain a tax deduction and estate planning advantages in the process.

In this free 9-page report about funding higher education expenses, we outline several strategies to save smartly for college.

Among the five strategies to maximize education savings while maintaining eligibility for federal financial aid, we encourage grandparents to think about financially supporting a college-bound student.

One particular college savings strategy got a boost from the recent FAFSA Simplification Act: grandparent-funded 529 plans. These are tax-advantaged savings accounts that may be used for qualified education expenses.

Prior to these recent changes to the FAFSA, distributions from a grandparent-funded 529 plan were considered student income. This counted more than parent savings in the aid eligibility calculation, increasing the expected family contribution and lowering federal financial aid.

Since 2022, student income is no longer required to be reported on the FAFSA application. Therefore, distributions from grandparent savings accounts no longer influence federal financial aid opportunities.

Strategies to Support a Grandchild’s Education

These are some of the most common—and effective—college-funding strategies for grandparents:

  1. 529 plans
  2. Direct tuition payments
  3. Cash gifts
  4. Irrevocable trusts

529 plans

Sponsored by all states and the District of Columbia, 529 plans are legally known as “qualified tuition programs”. They derive their name from Section 529 of the Internal Revenue Code, which granted the plans certain federal tax benefits and became law in 1996.

529 plans can be either prepaid tuition plans or education savings plans. They can be a versatile and tax-efficient way to save for a range of continuing education programs, technical programs, undergraduate programs, graduate programs, and even, in some states, K-12 schools. (You can search the U.S. Department of Education’s accreditation database to see if your desired program is listed.)

Like anyone else, grandparents can contribute to 529 plans that they or another person own. They additionally (again, like everyone else) can take advantage of a 529-specific rule that allows for the accounts to be “supercharged” by a large lump-sum contribution.

It works like this. In a single year, each grandparent can contribute five years’ worth of the annual gift-tax exclusion (currently $18,000)—i.e., $90,000—and then split the exclusion over five years. If both grandparents set up 529 plan accounts for the same beneficiary, they can gift in total $180,000 in one shot. That’s enough to fund about 75% of the $241,680 prospective cost for an in-state student at a four-year public institution in 18 years, using the College Savings Plans Network’s online calculator, assuming a 5% interest rate.

Supercharging can be a win-win for the entire family. Grandparents help their grandchildren and reduce their own taxable estate by the amount of the contribution; parents are relieved of the pressure to pay for all college expenses; and grandchildren get a major chunk of their college cost funded in a lump sum years ahead of when they’ll need it so income can grow.

Even if grandparents don’t have enough money to supercharge a 529, they can still take advantage of the attractive tax benefits these accounts offer:

  • Contributions are not deductible on federal income tax returns, but many states offer a state income tax deduction as an incentive to use the home-state plan. You can invest in any state 529 plan you wish, so it benefits you to consider not only the state tax deduction, but types of plans, plan costs, and investment offerings, which can include index funds, mutual funds, and professionally managed target-risk and target-date asset allocation funds.
  • Account assets grow on a tax-deferred basis until withdrawn.
  • Withdrawals of principal are tax-free and withdrawals of gains aren’t subject to federal or state income tax if used for qualified education expenses such as tuition, fees, and room and board. There is a 10% penalty levied on amounts withdrawn for non-education purposes.
  • Contributions are considered completed gifts for federal tax purposes. Any contribution over the annual gift tax exclusion would require a gift tax return and count against your lifetime gift tax exemption. In 2024, the annual gift tax exclusion for individuals is $18,000 and for couples filing jointly is $36,000, per year per child.

What if You Save More Than You Need?

It’s possible that you’ll have money left in your grandchild’s 529 accounts after paying for college. The SECURE Act 2.0 of 2022 helps solve this by allowing 529 plan assets to be rolled into a Roth IRA for the named beneficiary, subject to annual Roth IRA contribution limits and capped at a lifetime limit of $35,000.

What else can you do with the unspent account balance?

  • Leave the money in the account in case your grandchild might need it for graduate school or an eligible professional education program.
  • Name another family member as the account beneficiary.
  • Roll over the funds to a new account for a different beneficiary.
  • Roll over to a Roth IRA.
  • Withdraw up to $10,000 per grandchild (and siblings as well) to reduce qualified student loan debt.
  • Withdraw funds for a non-education purpose and pay both the income tax on the account’s earnings (but not on contribution amounts) and the 10% withdrawal penalty. If the beneficiary child receives a distribution and the child’s tax bracket is low, the tax payment would be low as well.

Direct tuition payment

If grandparents pay tuition costs directly to the institution, the payments aren’t subject to federal gift tax or generation-skipping transfer tax, no matter how large the payment is. Direct payments retain two big planning benefits: The amount of the payment reduces the payor’s taxable estate, and the payor remains able to gift the student the annual $18,000 free of gift tax. Note that the payment should cover college tuition only. Other expenses such as room and board, fees, and books don’t qualify, so be sure to specify that the check is for tuition and send it with the school’s tuition invoice. Also, direct tuition payments may affect the student’s eligibility for financial aid. If applicable, grandparents should discuss this with parents and the college before making the payment.

Cash gift

It’s common for grandparents to give their grandchildren cash to be used for college. While this used to be counterproductive, as such gifts previously appeared on the FAFSA form as untaxed student income, this can be a viable strategy today. Yet it’s still prudent to avoid cash gifts over the annual gift tax exclusion. And the person making the gift must recognize that an unrestricted gift may be used for purposes other than defraying college costs.

Irrevocable trust

Irrevocable trusts are legal vehicles that should be drafted by an attorney and may have to report and pay income taxes yearly. (You should seek out legal or tax advice if considering.) But irrevocable trusts’ potential benefits can outweigh such practical inconveniences, and they can be used in conjunction with other planning tools.
  • They can be customized for the specific needs and circumstances of both the child beneficiary and the grantor.
  • They can be drafted to allow distributions for a particular purpose (such as education costs) or for any purpose. The latter capability could enable the trustee to use the assets to help pay both for college and, if the trustee allows, post-college expenses, such as a first home.
  • They offer considerable flexibility in terms of investment options.
  • They can have multiple beneficiaries, which is highly advantageous for distribution flexibility. A trust with four beneficiaries, for example, could distribute much more than the annual maximum gift exclusion for each of the children in a single year.
  • They are powerful estate planning tools in that they can reduce the grantor’s taxable estate by the amount of growth on the gifted assets.

How AMG Can Help

Saving for college can be challenging. It takes substantial financial planning. For decades, AMG advisors have been trusted partners to client families and intimately familiar with their life goals and circumstances. AMG’s integrated, holistic Personal Financial Management (PFM) model provides the clarity needed to adjust savings strategies when needed. Advisors recommend investment options that align with overall portfolio goals, forecast taxes, guide the timing of specific cash inflows and outflows, and coordinate with other family members—particularly grandparents—to maximize their legacy planning. To book a free consultation call 800-999-2190 or email with the best day and time to reach you.


Download this free 9-page report to learn how to save smartly for higher-education expenses.

This information is for general information use only. It is not tailored to any specific situation, is not intended to be investment, tax, financial, legal, or other advice and should not be relied on as such. AMG’s opinions are subject to change without notice, and this report may not be updated to reflect changes in opinion. Forecasts, estimates, and certain other information contained herein are based on proprietary research and should not be considered investment advice or a recommendation to buy, sell or hold any particular security, strategy, or investment product.

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