What Tax Reform Means for Parents

Since I moved to St. Louis, the question I’ve been asked most is “What high school did you go to?” The good news is that under the new tax reform, there are now some income tax strategies to utilize when paying for that private high school, or even kindergarten through eighth grade.

1. 529 plans can now be used for elementary and secondary school.

Previously, 529 plans could only be used for higher-education, including college, trade schools, etc.  The new tax law allows you to use up to $10,000 per year, per beneficiary, for private K-12 education. If you are planning to use a 529 account for K-12 education, the savings and investment strategies will be different than an account you planned to use solely for college.  You will not want to take much market risk for money you will need in the short term.  Talk to your Wealth Manager about your overall strategy and timeline, so they can help determine how the money should be invested.

2. Understand your state’s 529 offering and income tax benefits.

Some states allow a credit or deduction for contributions to any state’s 529 plan, while other states only provide a benefit for contributions to their own state’s plan. Here is a state-by-state guide to help you understand the options in your state. In Missouri, we receive a deduction for 529 plan contributions up to $16,000 (if married filing a joint return).  With Missouri’s tax rate of 6%, that’s a $960 savings. If you and your spouse contribute to multiple 529 plans, the total deduction is still capped at $16,000. Some states offer a tax credit, which is a dollar for dollar state tax reduction. Others that impose an income tax offer neither a credit nor a deduction.  If you live in a state with no state income tax, you would receive no immediate income tax benefit from your contributions.

You should also consult your tax advisor to confirm whether your state follows federal tax law when it comes to distributions for K-12 education.  Under federal tax law, you do not pay income tax on income distributions for qualifying education expenses.  Some states automatically follow the new federal law and will allow state tax-free income distributions for K-12 tuition, but some currently allow tax-free distributions for higher education only.    

For more information about the income tax benefits of 529 plans, see Brian King’s post 529 Plan Overview, Part 1: Funding College Education.

3. Consider whether a 529 plan fits into your overall gifting strategy.

Remember that 529 plan contributions count towards the donor’s annual gift tax exclusion limits. (A donor can gift $15,000 per recipient in 2018). If you are already making the maximum annual gifts to a child, you can’t make a 529 plan contribution for the same child without using up some of your lifetime exemption. Instead, consider making tuition payments directly to the school. Direct payments are not considered gifts for gift tax purposes. It may make sense to forego a state income tax benefit to achieve your long-term gifting strategy.

4. Parents, there are other (mostly temporary) tax law changes that will impact you.

Here are items you will notice when you file your 2018 tax return.

• The standard deduction has doubled to $24,000 (married filing jointly). However, this was at the expense of many itemized deductions that were eliminated.
• Personal exemptions have been eliminated. In 2017, if your income was below $313,800 (married filing jointly), you could claim a $4,050 deduction for you, your spouse and each of your dependents.
• The child tax credit has increased from $1,000 to $2,000 per child. The refundable amount is limited to $1,400 per child. A $500 nonrefundable credit for non-child dependents was added.
• Kiddie tax has been simplified. Now, a child’s investment income in excess of $2,100 will be taxed at trust tax rates based on their income level, not their parents’ tax rates.
• Education and dependent care credits remain the same.

Having grown up outside of St. Louis, I may not be able to answer the “Where’d you go to high school?” question (at least not with a name anyone here would recognize). But, as a mother, I can appreciate the importance of using tax-saving strategies to fund education. Watch for more tax-related updates to come from our team, and feel free to bring any questions that arise to your Wealth Manager.

This post was written by a member of the Plancorp Women’s Initiative, which strives to advocate for clients and women in the community by addressing topics specific to their financial lives. For more information about the Women’s Initiative and how you can get involved, email haleigh@plancorp.com or visit the Plancorp Women’s Initiative page.