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Article – 529 College Plan Withdrawals Overseas

by David Tzimenakis December 12th, 2021
us global tax 529 plan college irs

Amongst our clients who have recently migrated from the USA, investments in 529 College Plans are a common occurrence, of course, investing in a child’s future education is always going to be popular. 

However, is a 529 Plan still useful for a child living overseas?

To begin, for those who don’t already know, we’ll explain what a 529 Plan is. 

A 529 plan is form of tax beneficial investment account, which is used to pay for qualified education expenses for a beneficiary. These are generally used to used to pay for college expenses in the US. 

First created in 1986 on a non-governmental level, they have since expanded to become a broad industry in the US. 

Their popularity stems from the tax benefits they offer. Similar to a Roth IRA scheme, contributions are made from after-tax income, and thus not deductible. The benefit however is made clear upon withdrawal, which can be made tax free when used for qualified higher education expenses at an eligible institution. Depending on the level of growth that occurs in the fund, this can result in a significant tax saving, and a useful lumpsum payment to assist in paying for the notoriously high US higher education costs.

Contributions to a 529 plan aren’t unlimited however, and are considered to be a gift to the beneficiary. This means they are subject to the usual gift tax limits of $15,000 per person, per year, before a gift tax return is required.

So, for US citizens living overseas, what does this mean for using a 529 plan for a foreign university? This boils down to what is considered an “eligible institution”.

We begin with Publication 970, which states:

Eligible Educational Institution For purposes of a QTP, an eligible educational institution can be either an eligible postsecondary school or an eligible elementary or secondary school. Eligible postsecondary school. An eligible postsecondary school is generally any accredited public, nonprofit, or proprietary (privately owned profit-making) college, university, vocational school, or other postsecondary educational institution. Also, the institution must be eligible to participate in a student aid program administered by the U.S. Department of Education. Virtually all accredited postsecondary institutions meet this definition. The educational institution should be able to tell you if it’s an eligible educational institution.

Although the regulations don’t necessarily block foreign universities from being considered an “eligible institution”, they are required to be eligible for US student aid.

But, lets take a look at this in greater detail.

All Section 529 withdrawals are subject to the provisions in 26 U.S. Code § 529.

A withdrawal can firstly be exempt from tax under Sec. 529(a):

qualified tuition program shall be exempt from taxation under this subtitle. Notwithstanding the preceding sentence, such program shall be subject to the taxes imposed by section 511 (relating to imposition of tax on unrelated business income of charitable organizations).

However we must then move to the definition of a qualified tuition program, which is defined in Sec. 529(b)(1)

The term “qualified tuition program” means a program established and maintained by a State or agency or instrumentality thereof or by 1 or more eligible educational institutions

Next, we move to what an eligible educational institution is, which is defined under Sec. 529(e)(5):

Eligible educational institution The term “eligible educational institution” means an institution— (A) which is described in section 481 of the Higher Education Act of 1965 ( 20 U.S.C. 1088 ), as in effect on the date of the enactment of this paragraph, and (B) which is eligible to participate in a program under title IV of such Act.

This finally leads us to Title IV of the Higher Education Act of 1965, which determines what programs are eligible for Federal government educational funding. This is a complex list of requirements that the institution must meet, in order to be eligible. The current list of foreign universities which qualify can be found here https://fsapartners.ed.gov/knowledge-center/library/resource-type/Federal%20School%20Code%20Lists. These foreign institutions have gone to the lengths to meet the requirements/conditions of Title IV, and thus make themselves eligible for Title IV funding. 

Fortunately, some of Australia and New Zealand’s largest universities have met the conditions required, and thus a 529 plan can be used for a tax beneficial 

For any institution that is not included on this list, without meeting the condition for Title IV funding, the institution and programs it runs cannot be used for Sec. 529 withdrawals.

That’s not to say a 529 plan cannot be used to pay for education at an ineligible institution, because the funds can be used for anything. It would however no longer be eligible for the beneficial tax treatment upon withdrawal, and subject to income tax (and possible penalties). 

There are of course other circumstances whereby a 529 plan may go unused, such as child  choosing to skip university. In these situations, planning is needed to prevent 529 plans being subject to penalties or income tax. 

For personalised advice, contact US Global Tax today.

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