How To Avoid Costly College Savings Account Mistakes in Divorce Cases

A 529 College Savings Account can be a valuable method for parents to set aside funds for their children’s education while also benefiting from significant tax savings. However, when a marriage unravels and financial settlement negotiations begin, these types of investments must be carefully addressed in order to prevent an inequitable support arrangement. The divorce and child support attorneys at Kantrowitz, Goldhamer, Graifman, Perlmutter & Carballo, P.C. can help you avoid the potential landmines concerning 529 accounts and can provide the guidance necessary to ensure that such funds are utilized as intended and do not foster additional disputes between the parties.

529 savings account fundamentals

Named for the portion of the Internal Revenue Code from which 529 college savings accounts derive their tax-advantaged status, investments of this type offer interested parties the ability to designate financial resources for the educational benefit of beneficiaries of their choice. Earnings have an opportunity to grow on a tax-deferred basis and withdrawals made for qualified expenditures are tax free. Accounts of this nature can be established by virtually anyone, whether a parent, grandparent, friend or family member of the assigned beneficiary.

Qualified expenses for 529 account funds

In order to gain the full advantages of a 529 account, the accumulated funds must be used to pay qualified expenses such as tuition, supplies, books, certain types of computer hardware and software, along with some room and board costs. These expenses may be incurred for the purpose of attending eligible higher education institutions that include both 2- and 4-year colleges, vocational/trade schools and postgraduate schools.

Accessing funds placed in a 529 account

It is important to note that a 529 account is an asset that does not belong to the beneficiary, but rather to the party responsible for establishing it. In the case of an account created by a husband and wife for the benefit of their child, such funds are in fact marital property subject to distribution in the event of divorce. This fact is underscored by the options available to the creators of the fund should the designated beneficiary decide not to pursue higher education. Under such a circumstance, the party or parties invested in the account can maintain the status quo in case the beneficiary has a change of heart, they may name a new beneficiary, or they may withdraw the money entirely, subject to applicable taxes imposed for failure to use the funds for qualified expenditures.

Crucial legal ramifications of 529 accounts

A number of misconceptions plague the topic of 529 college savings accounts, and it is necessary for married couples and those contemplating divorce to familiarize themselves with the critical facts. As stated earlier, accounts of this type are not the property of the designated beneficiary, but belong instead to the marital estate and as such, can be distributed in a divorce settlement. Courts are not permitted to order that such funds be used to pay a child’s higher education expenses, even though that may ultimately make the most financial sense. However, a divorce agreement can and regularly will include provisions in which responsibility for assuming such costs is assigned to and assumed by one or both parents.

Equitable handling of 529 account funds in divorce cases

While it is certainly common for divorcing parents to specify in their financial settlement agreement that accumulated 529 college savings funds should be used to pay their children’s higher education expenses, such a declaration can prove problematic. One potential issue could arise if the child does not wind up pursuing higher education at all or, alternatively, obtains sufficient scholarship awards to pay all of his or her expenses without parental assistance.

Furthermore, a mere statement of intent to use 529 funds for college expenses of the children of divorce will lead to the loss of potentially important “Reinisch” and “Rohrs” credits, a legal construct which works to prevent a payor of support in a divorce agreement from, in essence, paying twice for college room and board expenses. The Reinisch credit is designed to provide such an individual some degree of financial credit for money paid specifically for a child’s college room and board expenses, in acknowledgment of the child support already being paid directly to that child’s custodial parent. The New York case of Rohrs v. Rohrs serves as authority for the proposition that while a provider of support is entitled to the Reinisch credit at some dollar amount, it is not necessarily a dollar-for-dollar proposition, and that a case-specific assessment and calculation must be made.

In this way, a party charged with paying substantial support to a custodial parent will be spared the unfairness of paying twice for the same benefit to be bestowed on the child.

Avoiding common pitfalls by aligning with seasoned legal counsel

Sadly, far too many divorcing couples enter into financial settlement agreements that fail to include specific language concerning how 529 college savings funds will be utilized and neglect to incorporate language preserving and recognizing the principles embodied by the Reinisch and Rohrs cases. Fortunately, attorneys Paul Goldhamer and Louis Gerber, Esq., and the entire matrimonial law department at KGG, are committed to vigilantly safeguarding the interests of their clients with an eye toward achieving mutually agreeable separation arrangements which meet the needs of parents and children alike. To learn how we can assist you with financial planning related to higher education, particularly in the context of a divorce, contact us today.

Additional 529 College Savings Account resources:

1. NY’s 529 College Savings Program, 529 Basics, https://www.nysaves.org/home/basics-of-529s/529-basics.html
2. New York State Law Reporting Bureau, Matter of Levy v Levy, http://www.nycourts.gov/reporter/3DSERIES/2008/2008_05700.htm