If you’ve managed to open a 529 college savings account, give yourself a pat on the back. You’ll be glad you set one up – and you’ll be lucky you have money to spare, because many people don’t.
However, each of these accounts can involve up to four people: the account owner, that owner’s spouse, the beneficiary, and the successor. And if you don’t understand what that means or how it works, it can cause big problems when a marriage breaks up or someone dies.
Here’s what you need to know:
The four parties
When you open a 529 account, you become the “account holder.” There is usually only one owner and this is the first interested party in our analysis. Mark Chapleau, a lawyer and 529 expert, points to the rules that created the accounts decades ago, which describe an individual or entity as the authorized account holder.
Why not co-owners, such as a married couple or several grandparents? This could complicate the allocation of taxes and penalties if these owners do not follow the rules that give 529 accounts their tax benefits.
But setting up an individual account holder can create uncertainty for a second parent – that’s the second potential prospect here – which we’ll get to in a moment when we talk about divorce.
Then there is the third person in the game, the “beneficiary”. This is the person who should receive the training at the end. You can swap one beneficiary for another on the go.
Finally, there is the “successor”, our fourth party. If the original owner dies, a successor becomes the account owner.
How to Deal with a Divorce
Hopefully, in the event of a divorce, you will get a settlement instead of having a judge decide what becomes of your various financial accounts.
Part of that agreement may be determining who will pay (and save) what for college. And when you have this discussion, hopefully you’ll talk about existing 529 accounts.
However, this does not always happen. Be sure to discuss the matter with a lawyer or mediator.
The “only one account holder” situation can be challenging when divorcing couples do not trust each other. One solution might be to split the 529 accounts so that each parent can manage some of the money. Another option might be to provide the non-owner parent with regular bank statements so they know the ex isn’t absconding with the money or investing it in suboptimal ways.
Alan Feigenbaum, a matrimonial and family law attorney at Blank Rome in New York, generally has several questions on his 529 checklist.
When it comes time to fund college, does the couple plan to max out the 529 account before making further educational payments? What happens if there is money left in an account?
He also sees situations where future former spouses have knowledge of 529 accounts that the ex-partner’s relatives have opened. How, if at all, do these accounts fit into a settlement agreement?
Leila Francis, national director of trust advisory services at BMO Wealth Management, has a deep interest in these topics. She is a divorcee, an estate planning attorney, and a mother with a few 529s.
One of their concerns is the situation where an account holder gets divorced, remarries, has more children, and attempts to use 529 money from the first marriage for the children in the second. You can also try to exclude this in a divorce agreement.
However, you may not be able to account for all eventualities, including the possibility that the account holder becomes estranged from the beneficiaries years after the 529 plans are established.
“You can have a wonderful divorce decree that says what should happen,” Ms. Francis said. “But then you have to take your ex to court to fight him when he doesn’t do what he’s supposed to do.”
And that can cost money that you would otherwise pay for college.
Death and the dreaded emptiness
When you open a 529 account, the company you work with should ask you to name a successor. However, in general it is not mandatory that you give a name.
And quite often – perhaps in that sleepless haze where parents are more concerned about not harming the baby than about their own demise – people skip the follow-up part because they think they’ll come back to it later.
Then they don’t do it. At Ascensus, the market leader in 529 account management, around 25 percent of accounts do not have a successor. Turns out it was me on one of my accounts that Ascensus manages. I only noticed it this week.
According to Fidelity, which has its own 529 operation, more than half of the accounts have successors.
Peg Creonte, president of Ascensus’ state savings division, said she has been running campaigns to encourage families to fill the gap. For those who see the company’s communications, death may still be just too unpleasant a topic. And sometimes people aren’t sure who to trust.
Given that many 529 accounts have been in existence for 20 years or more, the lack of a successor can become a problem, especially with aging grandparents.
If a grandparent in your life has set up a 529 account, ask carefully for a successor. This week I heard from two readers whose parents had died and left accounts. Siblings of bad actors eventually gained control of 529 accounts intended to benefit readers’ children.
If there is no successor, the account administrator likely has set rules about what happens to the account. Sometimes the accounts end up in probate, which can lock up the money for a while and overlap with tuition due dates.
You could look up these rules. Or you can simply go to your account and name a successor immediately. Then look at that label again from time to time to see if you still trust that person.