The gift and estate tax treatment of an investment in a 529 plan is a good news, bad news situation.
The bad news is that your contribution is treated as a gift to the named beneficiary for gift tax and generation-skipping transfer tax purposes and so you need to be aware of this exposure particularly if you are making other gifts to the beneficiary during the same year.
The good news is that your contribution qualifies for the $18,000 (in 2024) annual gift tax exclusion and so most people can make fairly large contributions without incurring the gift tax.
Incentive to make large up front deposits
Even better news is that if you make a contribution of between $18,000 and $90,000 for a beneficiary, you can elect to treat the contribution as made over a five calendar-year period for gift tax purposes. This allows you to utilize as much as $90,000 in annual exclusions to shelter a larger contribution. The money (and the growth of your account) gets out of your estate faster than if you made contributions each year.
Asset control plus estate planning benefits
And the best news is that the asset leaves your estate but doesn’t leave your control. This is a remarkable benefit compared to the “normal” gift and estate tax laws. Anyone being advised to reduce their estate tax exposure through gifting but cannot stand the thought of irrevocably giving away their assets can now have their cake and eat it too.
Of course, if you later revoke the account, its value will come back into your estate. Your estate must also include a portion of any contribution made with the five-year averaging election if you don’t live past the fourth year.
