For ordinary Americans, the pursuit of higher education is a costly affair. If one attends a public college in-state, it will cost $25,615 per academic year on average. But for out-of-state college education, people should expect to pay at least $27,437 for tuition per academic year. Even in the best case scenario, over four years of study, students will pay at least $100,000.
It’s for this reason that grandparents who are financial stable should consider contributing towards college funds for grandchildren.
Education Accounts for Grandchildren
Grandparents can be valuable financial resources for students who encounter difficulty coming up with the money to pay for higher education.
While most college savings plans are geared toward contributions from parents, grandparents can also play a major role, and even enjoy tax deductions, for contributing money to their grandchildren's college education funds. And even though saving for grandchildren tax free may not be entirely possible, some tax advantages for doing so still exist.
Depending on where they live, grandparents may be able to deduct 529 college savings plan contributions from their state income taxes. For example, in Oklahoma, 529 state tax deductions can be as much as $10,000 for single filers and $20,000 for joint filers provided they are qualified expenses.
In addition, grandparents can deduct education expenses on their federal tax returns if they claim the grandchildren as dependents.
Claiming 529 Plan Deductions
529 college savings plans are intended to set aside and grow money for a beneficiary's college education. And usually, the earnings grow tax free. Grandparents can contribute to 529 plans if the plans include provisions for accepting contributions from third parties. All plans allow parents and the student beneficiaries themselves to contribute.
When grandparents can contribute as third parties, they may consider their 529 contributions tax deductible on the state level only when they live in states that allow 529 contribution deductions. Contribution and deduction limits are on a state-by-state basis.
Deducting Education Expenses
Grandparents who are legal guardians of their grandchildren, and claim them as dependents on their federal income taxes, can deduct tax deductible college funds for grandchildren. This includes money paid for a student's tuition and fees, room and board, books, and travel to and from school.
Grandparents can only claim these expenses as federal and state income tax deductions when they actually pay them, not when they give money to a student for future spending on education expenses.
Filing and Deducting Opportunities
There are no federal tax deductions for grandparents who contribute to 529 college savings plans or related products, such as Coverdell accounts, for their grandchildren.
These deductions are exclusive to state income tax codes, which limits how much they can save on taxes. Grandparents can choose to give money that they save from other eligible tax deductions to help pay for college, but this has additional tax consequences.
For grandparents, one of the best ways to save for grandchild's college is through gifts that parents invest in 529 plans, or that students hold in savings accounts and later spend on college expenses. The annual exclusion for 2021 is $15,000. For the tax year 2022, the amount will increase to $16,000.
This means that while grandparents who contribute up to this amount to a student's education fund don't receive tax deduction eligibility, they do prevent their grandchildren from being liable for tax on the money.
Read More: What Are Above-the-Line Deductions?
While it requires some thought, starting a college fund for the grandchildren could be one of the best ways for grandparents to spend their hard-earned money. But it would be wise to explore all the available options and their tax implications first.