How the New Tax Law Changed the 529 Plan Game Board

The greatest advantage of the new TCJA 529 plan provision is greater flexibility for families. For instance, if a family moves a child to a private school it couldn't otherwise afford, the family can use 529 funds to help shoulder the burden. Additionally, because 529 plans can be transferred between relatives, there will be a significant amount of flexibility for families with overfunded 529 plans.

The primary disadvantage lies in the fact that the new, shorter time horizon will create difficult discussions when it comes to investment strategy and allocation. As clients gain earlier access to the funds, they will likely wonder whether it's necessary to have such a high allocation to equity in the accounts when children are young.

For those who choose to take advantage of the 529 plan program, it is essential that having a 529 plan works in their overall financial planning strategy. Clients should be careful not to pull cash from these accounts just because they can. As for those who do use the funds early, I would recommend taking tuition savings to fund another vehicle, to help ensure college savings are still in place.

A strategy advisors should consider is simultaneously funding a permanent life insurance policy, in order to leverage the increased value created under tax reform.

Funding both a 529 plan and a permanent policy designed for cash accumulation, as soon as a child is born, gives a family flexible options as it chooses where to enroll the child later in life.

If the child ends up enrolling in a private high school, the parents can use the 529 savings for that expense while continuing to fund the cash value of the life insurance policy.

If the 529 assets are depleted by high school tuition expenses, parents can then either use the cash value of the life insurance policy or take out a loan against the policy — whichever makes more sense at the time — to pay for college tuition.

Of course, if 529 assets are not depleted, the family should use 529 assets for college expenses before tapping the value of the life policy.  Any funds remaining in the life policy after college can be used for expenses unrelated to education, without penalty.

A major benefit of this strategy is the fact that the cash value from a permanent life insurance policy is excluded from the Free Application for Federal Student Aid when a student applying for financial aid in college, while 529 assets are included. Additionally, a permanent policy protects a child in the event the parents pass away—and can be used to cover college expenses. In this situation, use of a permanent policy can replace the common strategy of using term life insurance to cover college expenses in the event of the parents' death.

The TCJA also presents options for grandparents who want to contribute to the college funds of their grandchildren. In many cases, grandparents can take advantage of the gift tax exclusion and accelerate five years of giving into one lump sum. The value of the tax-free growth from a lump sum is significant when compared with the growth from yearly contributions. For a couple that might be subject to the estate tax, this strategy also removes a significant amount of value—and therefore subsequent appreciation—from the estate without depleting the couple's' unified credit exemption.

— Read Debts After Death on ThinkAdvisor.

Jeffrey Phillips, CFA, CPA, is a principal and managing director with Rehmann Financial based in the Vero Beach, Florida. The firm is an independent member of Nexis International. Securities are offered through Royal Alliance Associates, which is a member FINRA/SIPC. Investment advisory services are offered through Rehmann Financial, a registered investment advisor not affiliated with Royal Alliance Associates.