What are the rules on overfunding a 529 college savings account?
I read somewhere that overfunding a 529 account could be subject to taxes and a 10% penalty. Does anyone know how this works? Obviously, it is very difficult to predict the tuition costs 10 or 15 years ahead. I understand you can apply the overfunds to a another child or relative, but what if this is not these? Do you pay taxes + 10% penalty on all leftover funds?
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In addition to changing the beneficiary of the account, you can withdraw excess funds without penalty if the child dies or is disabled, or if the child gets a scholarship.
Also remember that the tax and penalty is on earnings, not principal.
It's really a calculated risk. The most you gain is for the growth to be tax free, the downside (for the excess funds)is the growth is taxed plus the 10% penalty.
I'd suggest a simple strategy. Deposit as much as you can, early on, until the balance approaches the current 4 yr college cost. Then, just add enough to match the current cost, i.e. If college costs grow more than the account, just make up that difference.
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