Gifts to 529 Plans: The Ultimate Guide to Form 709

How a seemingly-simple election can cause tax reporting and gifting headaches

This is a continuation of the series on preparing Form 709. For the last article in this series, click here. To skip to the intro, click here.

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Table of Contents:

1. Intro

2. General Overview

3. Gift Tax Example

4. Gift Tax Filing Principles

5. GST Tax

6. Other Gift and Estate Tax Issues

7. Gift Tax Reporting Examples

   1. Example 1

   2. Example 2

   3. Example 3

   4. Example 4

8. Conclusion

Intro

One of the biggest challenges to the use of the gift tax annual exclusion, currently $18,000 per donee, is the present interest requirement.  A gift of cash or property usually will only qualify for the annual exclusion if the donee has the immediate, present right to the use or enjoyment of the gifted cash or property.  This presents challenges for gifts to trusts, as discussed in the prior article with Crummey powers. 

But, when it comes to Code Section 529 plans, these issues are avoided.  In fact, the annual exclusion gives us extra benefits which were not necessarily anticipated. 

General Overview

IRC Section 529 generally describes the income tax treatment of qualified tuition programs.  Usually, contributions to these plans or programs are deductible for state (but not federal) income tax purposes.  But, the real magic occurs within the plan.  The plan contributions grow on a tax-deferred basis, and no income tax (federal or state) is incurred so long as plan distributions are made to the designated beneficiary for qualified higher education expenses.

In the gift tax context, we find some added benefits. 

Under IRC Section 529(c)(2)(A), a contribution to a 529 plan is a completed gift of a present interest to the designated beneficiary of the plan.  Thus, the contribution qualifies for the gift tax annual exclusion for the donor, which could be doubled for married couples by gift-splitting. 

But, the real magic happens under IRC Section 529(c)(2)(B).  Usually, a gift to a donee which exceeds the gift tax annual exclusion for any given year (or double the annual exclusion if a gift-splitting election is made) is treated as a taxable gift, which uses some of the donor’s or donors’ lifetime applicable exclusion (currently $13,610,000 for 2024) as credit against gift tax.  There is, however, an election available to the donor under this Code Section allowing for a contribution of up to 5x the available annual exclusion(s) without using applicable credit against gift tax. 

The trade-off, however, is that these accelerated annual exclusions must be used ratably over the next 5 years.  This limits subsequent annual exclusion gifts to the donee.  And, if the donor dies within this 5-year period, the excess is included in the donor’s gross estate.  (Generally, but for this rule, no contributions to a 529 plan would be included in the donor’s gross estate.)