Here’s some good news for grandparents who want to support their grandchild’s higher education: a legislative update called the FAFSA Simplification Act has created a valuable “grandparent loophole” that can help maximize 529 plan savings in a tax-smart way.

Now, grandparents (and other non-parent contributors) can contribute toward a student’s education without affecting the beneficiary’s eligibility for federal financial aid. For families facing the ever-increasing cost of college, this change can make a meaningful difference—especially in helping students start their adult lives with less debt.

What Is the Grandparent Loophole?

A 529 plan allows parents, grandparents, and others to prepay a child’s qualified education expenses at an eligible institution or contribute to an investment account for that purpose. The funds in the account grow tax-free, and withdrawals for qualified education expenses are not subject to federal or state income tax. Many states even offer tax credits or deductions for those who make 529 contributions.

Previously, 529 contributions from grandparents were considered untaxed student income. Which meant these gifts, while well-intended, could reduce the student’s federal aid eligibility by up to 50% of the distribution. For example, a $20,000 withdrawal from a grandparent-owned 529 plan could cut $10,000 from a student’s financial aid.

But thanks to the FAFSA changes that went into effect with the 2024–2025 award year, students no longer need to report distributions from a grandparent-owned 529 plan. On the new FAFSA form, a student’s income is based solely on information from federal income tax returns. The money you give as a grandparent won’t hurt the student’s ability to qualify for aid.

The exception is if your grandchild chooses to attend one of the more than 200 private colleges and scholarship programs that use the College Scholarship Service (CSS). This application process still factors in non-parent contributions, including withdrawals from grandparent-owned 529 plans.

Gift Tax and Estate Planning Considerations

It’s important to note that unlike donations made directly to an educational institution, 529 plan contributions are considered gifts and subject to IRS limits:

• The 2025 annual gifting limit is $19,000 per individual ($38,000 for couples).

• Contributions can be made to multiple beneficiaries without triggering gift tax reporting. So if you have several grandchildren, you can give each the annual limit.

Another strategy to consider is five-year gift averaging, also called “accelerated gifting” or “superfunding.” This allows a single-year contribution to be treated as if it were made over five years for tax purposes. Using this approach, you could contribute up to $180,000 at once ($36,000 × 5), letting the funds grow tax-free longer without the need to make annual contributions.

Whether you choose to fund the 529 plan through annual contributions or a lump sum, once those gifts are made, the money will be removed from your taxable estate. This could potentially reduce your total estate tax liability.

What If the Money Isn’t Used?

If your grandchild doesn’t attend college or doesn’t use all the funds in a 529 plan, there are still flexible ways to put the money to good use.

• One new option is to roll unused assets—currently up to $7,000 per year with a lifetime limit of $35,000—into a Roth IRA in the beneficiary’s name. You can do this without triggering taxable income or the 10% penalty on nonqualified withdrawals.
• Withdrawals can also be used tax-free to fund registered apprenticeship programs or up to $10,000 in certain student loan repayments.
• You retain control of the 529 account, and if the original beneficiary doesn’t use the funds, they can be transferred tax-free to another family member—allowing you to benefit another grandchild.

A Gift with Lasting Impact

Funding a grandchild’s education is one of the most meaningful ways to transfer wealth to future generations. It can help your grandchild, and your child, avoid taking on excess debt—which can ease their financial stress. You may even be creating a lasting legacy, where each generation helps the next.

529 plans let you give in a way that maximizes control and minimizes taxes. At JJ Burns & Company, we understand the importance of helping loved ones start and stay on solid financial footing. Don’t hesitate to connect with us today to discuss education and legacy planning for your family.

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