Education / Politics / Taxes

Tax Cuts and Jobs Act May Help Families Address Education Costs

The Trump administration embraced a decidedly pro-school choice stance with the selection of Devos for Secretary of Education, but Donald Trump originally voiced his personal support for the issue in the 2016 election season. He claimed that were he to become president, states would have the chance to put up to $20 billion in federal funds towards school vouchers. These vouchers would allow children from low-income families to attend the public, private or charter school of their choice. Post-election, however, the topic of school choice and educational expenses had not been at the forefront of policy discussions until the proposal and eventual passage of the Tax Cuts and Jobs Act.

The Republican tax plan included legislation expanding 529 savings plans to include K-12 private school tuition and allows families to put aside $10,000 a year in their 529 savings accounts. With this legislative victory, supporters of school choice came into School Choice Week with understandable enthusiasm and energy. Supporters of school choice like Senator Ted Cruz touted the passage of the bill as a win for education reform. School Choice Week, which ran from January 21st to the 27th brought together legislators, school choice advocates, educators, and students with the rallying cry, “If parents have a choice, students have a chance.”

These savings plans were created to do just that–allow for a greater menu of choices. Vouchers, savings plans, and the rise of charter schools can mitigate the consequences of a rigid school districting system based on location of a student’s home or the family’s income. The 529s specifically have shown promising results in that they are successfully engaging parents. Between December of 2015 and December of 2016 the total number of 529 savings accounts rose by 3.2%, from 12.5 million to 12.9 million; and the average account size rose by 5.9% over the same period. The 529 savings plans were made to be tax-advantaged, so any financial growth in the account would be free from federal taxation as a means to help parents save for the cost of college. With the changes that came about after the Tax cuts and Jobs Act, parents can now use their savings towards K-12 education expenses and can put as much money as they see fit into their accounts each year. The future of 529 savings plans and their influence and effect on college (and now K-12) affordability seems rather promising. However, middle and lower-income families ability to cover more educational costs as a result of 529 account expansion may be minimal.

It is ultimately up to the states to decide how these changes from the tax plan will be implemented. Eight states need to adopt new legislation to address the changes and 22 states (plus D.C.) have to officially determine how the changes will affect them. Those 22 states may choose not to extend tax benefits to state taxes. The legislatures in progressive states who get most of their state revenue from individual taxes would likely not support state tax incentives for 529 plans.

The 529 savings plans function much like a 401k. The money put into the account is invested in mutual funds, and ideally grows over time. In this case, the families can draw from this larger sum of money by the time families have educational expenses. These types of investments will work best over long periods of time to allow the principal investment and the subsequent additions to actually accrue interest. Additionally, now that there are no limitations on how much parents can contribute per year the potential for growth is greater. The problem, however, is in who actually derives the benefit. Lower and middle-income families who could make use of these programs won’t have much disposable income to invest and without a tax incentive many may not invest as much as they could if at all. Furthermore, there are fewer years for that investment to grow now that the savings plans have been expanded to K-12 education. The plans are not nearly as useful if parents open a 529 savings account at the birth of their child and then start taking money out of it once the child enter kindergarten five years later. You wouldn’t do this with a 401k or an IRA and it doesn’t make much sense to do it with a 529 savings plan.

If a family does happen to have disposable income to put into these plans they can typically keep between $200,000 to $300,000 dollars (depending on the state) in their account and will have the ability to keep that amount in there for much longer than a family with limited financial resources. This is a great program for families who are able to go without several thousand dollars a year, but without guaranteed tax benefits at the state level it is difficult for other families to take full advantage of the 529 savings plans. It still remains to be seen how states will respond to the recent changes and how the program’s expansion will affect families investment in the it and their ability to cover their children’s educational expenses from Kindergarten to college.