Students work in school on computers

What College Savers Should Know About 529 Plan Legislation

Pending legislation would provide a definitive answer on whether computers are an allowable expense, among other things.

Students work in school on computers

Laptops and computer software would be allowed to be purchased with 529 plan funds if legislation introduced in March is passed.

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A piece of legislation currently in committee could end a long-standing debate among accountants and the managers of tax-advantaged college investment accounts: whether money in 529 plans, as these accounts are known, can pay for a student's computer.

The bill is one of two introduced by Congresswoman Lynn Jenkins, R-Kansas, that would affect 529 plan savers. First introduced as a single piece of legislation in 2011, Jenkins split the bill in two for the current Congress: One bill would in part add an employee income tax deduction for employer matches, and a second bill would allow families to purchase technology for school and change investments more frequently than they do now, among other things.

The former was reintroduced last year, and the second was introduced in late March. Both are in front of the House Ways and Means Committee. The hope is that both bills will pass, but Jenkins wanted to give the technology portion a better chance, says Tom Brandt, a spokesman for the congresswoman.

Current 529 plan rules say that money in these college investment accounts can only be used for certain things, such as textbooks and tuition, known as qualified education expenses – and that money saved in these accounts used for something other than a qualified expense could be subject to a tax penalty.

[Check out what money in a 529 plan can pay for.]

The IRS defines these expenses as "amounts paid for tuition, fees and other related expenses for an eligible student that are required for enrollment or attendance at an eligible educational institution."

Computers could be included in the "other" category, but whether they’re required for students to attend college has been a question.

Experts have long been divided about whether technology can be purchased with 529 plan funds. Accountants familiar with 529 plans often advise clients to go ahead and do so, while 529 plan officials typically urge caution. However, the bill would clear up all confusion and make computers officially allowed regardless of school-specified requirements.

It’s very hard to attend college without a computer, says Roger Michaud, a former chairman of the College Savings Foundation, an organization of college savings plans and financial professionals. His son is a student who needs a new laptop. If the bill passes, he could withdraw funds from his 529 plan to pay for it – and potentially for other digital needs.

Other equipment and supplies that could be allowed under the bill are cameras or software needed for classes, says Dale Ellis, project coordinator of Arkansas 529 Plan Project.

Another potential benefit of the bill for college savers is that it would allow changes to 529 plan account investments more than once per year, Michaud says. Many financial advisors worry about clients investing in 529 plans due to a lack of investment control, he says. It’s scary to be stuck in a market downturn without being able to make changes.

[Understand the types of college savers who benefit most from a 529 plan.]

For instance, when the market took a dive in 2008, families who had already made changes to investments in a 529 plan earlier that year could not make changes again for another year. Meanwhile, account values decreased.

If their child was using the money in the near future, the family would not have had time for the account to recover when the economy rebounded. The new bill would allow changes four times per year, Michaud says.

If passed, the legislation just introduced would also give parents the ability to roll over remaining funds from a 529 plan into a Roth IRA for retirement without incurring a tax penalty under certain conditions. An account owner must have owned the account for 10 years and the amount distributed is capped at $25,000.

The final bit of good news would only exist if Jenkins' earlier bill is passed. That bill would include an income tax break for 529 plan contributions from employers to employees, up to $600.

[Don't fall for these college savings myths.]

Michaud believes the 2011 version didn't pass because of the additional cost for the government of the tax deduction associated with the employer contribution provision. He thinks the piece introduced earlier this year has a better chance of passing now, but it may be folded into different legislation that would allow families to save for the expenses needed by disabled adults in a plan similar to a 529 plan.

If either bill passes, changes detailed in the passing bill will be enacted on future 529 plan transactions for current and new 529 plan account holders.

As college costs continue to rise, the issue of savings is growing more important, Brandt says, and the rise in tuition prices will increase the likelihood the new bill will pass.

Trying to save for college? Get tips and more in the U.S. News College Savings 101 center.

Clarified on June 3, 2014: This article has been updated to clarify the income tax deduction for employees on employer contributions.