Can You Use a 529 Plan to Pay Student Loan Debt?

A 529 account is a tax-advantaged account you can use to cover certain educational costs. If you have this type of account or are thinking about starting one, you may be wondering – can you use your 529 plan to pay down student loans? 

The good news is, a law called the SECURE Act enables eligible borrowers to use some 529 funds for educational debt. However, there are strict rules when it comes to paying down your student loans with funds from a 529 plan, so you’ll need to understand how they work. 

What is a 529 plan?

A 529 plan is a savings account for educational expenses. Any U.S. resident over age 18 with a Social Security number or a tax ID can open a 529 account with no income restrictions. The owner of the 529 account will be able to name anyone with a Social Security number as a beneficiary. The account owner can also be the beneficiary.

Tax benefits of these accounts vary by state, but in most areas, money that’s been deposited into them can grow free of federal and state taxes. Some states also allow you to make deductible contributions. And as long as the money is withdrawn for qualifying educational expenses, withdrawals should be federal tax-free. Keep in mind that not all states consider student loan payments to be 529-eligible, so while you may not pay federal taxes, you may pay state taxes depending on where you live.

Qualifying educational expenses include many costs associated with K-12 education, college education, apprenticeship programs, and even student loans. However, there are some restrictions on 529 student loan payments to be aware of. 

Can you use a 529 plan for student loans?

In December of 2019, the Setting Every Community Up For Retirement (SECURE) Act passed. It made a fundamental change to 529 account rules, changing the answer to the question, can you use a 529 plan for student loans?  

Prior to the passage of the SECURE Act, the money in a 529 account could only be used for up to $10,000 in K-12 costs and for eligible college expenses. Withdrawing money for other purposes — including paying off student debt — meant it was subject to ordinary income tax as well as a 10% penalty. 

However, the SECURE Act now enables many borrowers to use a 529 to pay student loans. If your state allows, you can withdraw up to $10,000 from your 529 account to repay federal or private student loan debt. This $10,000  is a lifetime limit, but applies per plan beneficiary. As a result, parents who opened a 529 account and who have two children could take $10,000 out of the account per child, for a total of $20,000 in student loan debt repaid from account funds. 

Keep in mind, you must make the student loan payment in the same year that you withdraw the money from your 529 account. And since plan rules do vary by state, you’ll want to make sure your state has accepted the federal rule defining student loans as a “qualified higher educational expense” that 529 funds can cover. 

When you make 529 student loan payments, you also cannot take a tax deduction for student loan interest paid using a distribution from a 529 account. So using a 529 to pay student loans may affect other tax benefits available to you. 

While you need to be aware of these rules, using a 529 to pay student loans can still be an excellent use of the funds in the account. However, because state rules may differ, it’s best to talk with a financial advisor about your specific situation so you can get personalized advice.

How to use 529 for student loans

If you’ve decided to use your 529 to pay student loans, doing so is simple:

• Check the definition of “qualified higher educational expenses” for 529s in the state where you opened the account. Make sure that the state adopted the federal rules that classify student loans as a qualifying expense. 
• Decide how much to pay. Remember, you are subject to a $10,000 limit per eligible beneficiary, so a parent with two children could withdraw $20,000 total to pay up to $10,000 in educational debt for each child. 
• Make the payment: You can send money directly to the lender, to the beneficiary, or reimburse yourself for payments made via check or electronic debit. Just be sure the student loan payment is made in the same year as the withdrawal from the 529 and that you document it.

Follow these steps carefully to avoid losing the tax benefits that come with using a 529 plan to pay student loans. 

Bottom line

The SECURE Act made it possible for some borrowers, depending on their state restrictions, to pay student loans using 529 accounts. Even if you’re eligible, it’s important to be aware that your 529 plan student loan payments are capped at $10,000. For more information about your specific situation, speak to a financial advisor.

This blog is for educational and informational purposes only and should not be construed as legal, financial or tax advice. Links to other websites or references to services or applications are provided as a convenience only. A link does not imply ELFI’s sponsorship or approval of any other site, service or application. ELFI does not control the content of these sites, services or applications.

*Education Loan Finance is a nationwide student loan debt consolidation and refinance program offered by Tennessee based SouthEast Bank. ELFI is designed to assist borrowers through consolidating and refinancing loans into one single loan that effectively lowers your cost of education debt and/or makes repayment very simple. Subject to credit approval. See Terms & Conditions. Interest rates current as of 03-02-2021. The interest rate and monthly payment for a variable rate loan may increase after closing, but will never exceed 9.95% APR. Interest rates may be different from the rates shown above and will be based on the term of your loan, your financial history, and other factors, including your cosigner’s (if any) financial history. See Eligibility Requirements for more information. For example, a 10-year loan with a fixed rate of 6% would have 120 payments of $11.10 per $1,000 borrowed. Rates are subject to change.