If you have children or grandchildren who have not yet completed their college education, you may be wondering how to help them achieve that goal. Two popular choices are the 529 College Education Plan and an Education Trust.

A 529 Plan is a tax friendly account because, while contributions to the account are not federally tax deductible, the growth of the account is tax deferred. If the account is used for qualifying educational expenses, that growth passes tax free and can be used for the qualifying expenses without paying a tax on the gain. The account must have an owner (usually a parent or grandparent) and can only have one beneficiary. The owner can change the beneficiary, but cannot name more than one at a time. (The owner can also name a successor owner to be in charge of the account in case the owner Plan 1dies.) Anyone can make contributions to the account, but the account owner is the only one with authority to make withdrawals.

A 529 Plan is not for everyone and there are several downsides. One of the biggest is that the account owner is in control of the account, not the donor. When these are not the same person, the account owner’s plans may not always be on par with the donor’s intentions. Imagine that grandpa and grandma contribute $10,000 to a 529 Plan for little Susie. Susie’s parents get divorced, and mom (the named account owner) decides it would be better to spend the money on something else, so she withdraws the account, uses it to pay income taxes and penalties, and spends the rest. If you think this doesn’t happen, think again. There are many other concerning possibilities. What if Susie is not destined for college but could use some help starting a business? What if grandma and grandpa ultimately have several grandchildren, but all of their 529 Plan accounts do not get equally funded? What if a grandchild develops special needs?

An Education Trust is often a better alternative, especially where the gifted amount will be significant. The donors setting up the trust decide who will be in charge, who will be the beneficiaries (there can be more than one), give specific instructions as to what the funds can and cannot be used for, and include flexibility in the event of changed circumstances. An Education Trust can consist of provisions built into a general living trust (which would not be funded until the donor dies), or it can be a “standalone” trust that is funded during the donor’s lifetime. Most Education Trusts are of the former type, with the latter most often being used when the donor setting up the trust wants other family members to contribute to the trust as well.

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