Contributing to 529s

BY RACHEL RYAN, PARTNER AND ADVISOR

"How much should we put in a 529?" is a question we get asked a lot, and with four kids of my own, I can tell you there isn't a perfect answer. There are too many unknowns to build a model that spits out "the right number." What kind of path will your child take? Will they attend a four-year university, pursue a trade, or go on to graduate school? What will higher education even look like in an era shaped by AI and rapid change? These are questions I wrestle with as both an advisor and a parent.

That said, not everything is uncertain. We do know that college is expensive. According to recent data, the average annual cost of a four-year public college (in state) is now roughly $27,000 while private colleges are closer to $65,000. Historically, these costs have grown at about 5% annually, but in the last few years the increase has been closer to 2%. As parents and grandparents, we may not know exactly what the future holds, but we do know we want to give our children and grandchildren the best possible chance to succeed whatever that path ends up being.

And that brings us to a common concern we hear next: "What if we save too much?" In other words, is overfunding a 529 something to worry about?

The short answer is no, overfunding a 529 is not something to stress over. The concern usually comes from a misunderstanding of how flexible 529 funds are and what happens if the money isn't fully used for education.

People tend to assume that the entire account gets hit with penalties, but that's not how it works. If funds are used for non-qualified expenses, only the earnings portion, not the contributions, is subject to ordinary income tax and a 10% penalty. Since contributions were made with after-tax dollars, you can always get that money back penalty-free.

Even if there is money left over, 529 plans offer flexibility around spending. You can change the beneficiary to another child (say one goes to graduate school) or save it and eventually change the beneficiary to a grandchild. Never underestimate the power of compounding, $50,000 left over in a 529 may cover a grandchild's college in 30 years. If that isn't in the cards, a niece/nephew, friend's child, or even yourself are options.

While many people still think of 529s as only covering tuition/room and board, the definition of qualified expenses has expanded since the plan's inception in 1996. Funds can be used for books, supplies, technology, studying abroad programs, graduate school and even paying student loan debt in some situations. 529 plans can also be used for K–12 tuition and certain apprenticeship programs.

One of the biggest advantages of a 529 and a key reason overfunding can work in your favor is tax-free growth. Unlike a taxable brokerage account, where investments can create ongoing tax drag each year, a 529 allows your money to compound without interruption. A New York investor may lose roughly 0.27% per year to taxes on dividends alone, not including potential capital gains distributions in less tax-efficient funds. That may not sound like much, but over 50 or even 75 years, that small drag compounds into a meaningful cost.

To illustrate this, we ran a model investing $1,000 per month for 50 years and assumed an 8% return. The result was that the 529 fund had $6.8 million compared to $5.9 million in a taxable account — a meaningful difference. But extend that same strategy to 75 years, and the gap widens dramatically: roughly $51.8 million in a 529 compared to $41 million in taxable. The longer the time horizon, the more powerful tax-free compounding becomes.

What's especially interesting is that even when you assume a non-qualified withdrawal from the 529—meaning you pay income tax and a 10% penalty on just the gains—the tax-free compounding along the way can still offset a meaningful portion of that cost. In other words, avoiding taxes every year for decades is more powerful than you might expect. While a highly tax-efficient index fund in a brokerage account will still come out ahead in most scenarios, the gap is often much smaller than people assume—and in less tax-efficient investments, the 529 can even come out ahead.

Ultimately, overfunding a 529 isn't about making a mistake, it's about creating options. It gives your family flexibility, reduces the risk of student debt, and opens the door to multi-generational planning opportunities. When viewed through that lens, having "too much" in a 529 isn't a problem at all, it's a sign that you've planned ahead successfully.