One of the many unfortunate outcomes of the COVID-19 pandemic was the closure of educational institutions across the nation. Consequently, many students (or their parents) have received or will receive partial refunds of money that was previously paid to the schools for their last semester’s tuition, room and board.
If a refund is received for payments that were originally made via 529 plan distributions, the refunded amount can be treated as a distribution from the 529 plan not ultimately used for educational purposes. This could result in a taxable distribution based on account earnings and a 10% early withdrawal penalty.
There are two options available in this situation. First, the refund can be used to pay for other qualified education expenses. However, the qualified education expenses must be incurred by the same beneficiary and must be incurred in the same calendar year. Thus, this avenue might not be appropriate.
The second option is to re-contribute any refunded amounts back to the 529 plan. This re-contribution must be made back into the 529 plan from where the distribution originated. Time is of the essence for these re-contributions. Generally, an account owner has 60 days to re-contribute the refund. As part of the CARES Act legislation, refunds made on or after February 1, 2020 and prior to May 16, 2020 may be re-contributed to the 529 plan within 60 days or by July 15, 2020, whichever period is longer. Please note that the amount re-contributed cannot exceed the amount of the refund.
Different states and 529 plan providers may have specific requirements for fulfilling and documenting re-contributions. You should contact your plan custodian for proper procedures.
If you have questions regarding this Client Alert and its applicability to your individual tax situation, please contact Dan Newman at email@example.com or your ORBA advisor.