Maryland families are cashing in on a loophole that has provided them thousands of dollars in state funds to pay for college or private school tuition.
One family collected almost $100,000 in taxpayer money from a state program designed to encourage families to save for education costs.
Lawmakers are working this session to close the loophole. But hundreds of Maryland families already have taken advantage of it by opening multiple education savings accounts for each of their children and receive a state contribution of as much as $500 per each new account.
For decades, Maryland parents have been investing in the state’s college savings plans known as 529 plans. With a deposit of just $50 or $100, families could open a 529 account in their child’s name, and then regularly deposit money into it over the years. Any earnings in the college accounts are tax-free, and the withdrawals are not taxed if spent on education expenses. In addition, Maryland offers a tax deduction for 529 contributions.
But with college costs skyrocketing, Maryland lawmakers wanted to do even more to encourage parents to invest in 529 plans, so in 2019 they added a financial incentive. If a couple making less than $125,000 a year opened an account with $100, the state would contribute $500. A couple earning up to $175,000 that deposited a minimum of $250 into an account would receive $250 from the state.
That followed a 2018 change that was part of the Trump administration’s tax reform bill that allows parents to spend up to $10,000 a year from a 529 plan to pay for private school tuition for kindergarten through 12th grade. According to the state agency that reviews the plans, about 92% of investments are used for college and the rest for private school tuition.
Families quickly took advantage.
In one family, three people opened 49 separate accounts to benefit each of three children and 48 accounts to benefit a fourth child. The state paid $500 into each of the accounts, amounting to a total of nearly $100,000. The name of the family was not made public, but it set off alarm bells among plan administrators reviewing the transactions, according to Michelle Winner, marketing director for Maryland 529. They who contacted the Maryland General Assembly at the beginning of the legislative session this year, she said.
Lawmakers also were alarmed.
Baltimore County Sen. Katherine Klausmeier, a Democrat, has introduced a bill to address the loophole. Under her bill, beneficiaries of college savings funds would be eligible for state bonuses for only two accounts opened in their name. The Senate is expected to vote on Wednesday on the bill.
“As the 529 Program has rolled out, loopholes were discovered where the program is being exploited due to vague legislative language," she said. “This legislation, which was also a recommendation of the Department of Legislative Services, takes steps to tighten one of those loopholes.”
A House bill introduced by Del. Dana Stein, who represents northern Baltimore County, was withdrawn. Stein said he’s concerned about people taking advantage of the program, but he wasn’t sure of the best way to limit it.
“I withdrew the bill because I realized I wasn’t certain what the correct number for limiting state contributions to 529 plans should be,” he said.
For instance, he wondered whether grandparents should be able to set up separate 529 plans for a child, in addition to the parents.
Maryland 529 does not disclose who is using the program or how they are spending the savings.
But Baltimore County and Baltimore City residents accounted for more than half of the 23,900 applications the program received last year.
Some groups in Maryland wanted families to know about changes to the 529 plans. Private schools, such as Bishop Walsh in Cumberland, encouraged parents to use the plans to expand their college and private school savings. Religious organizations, such as Agudath Israel of Maryland in Pikesville, did as well.
“Need help with tuition? Read below to find out how 529 plans can help pay for your day school tuition," a headline on Agudath Israel of Maryland’s website reads.
Rabbi Arial Sadwin of Agudath Israel of Maryland said the website was created to help families figure out 529 plans.
“We try to make it accessible and straightforward so people can utilize the information in an effective manner,” Sadwin said.
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Sadwin said his group did not push the idea of opening multiple accounts.
“I am not comfortable with the notion that someone can find a clever mechanism to make a lot of money,” he said.
Sadwin said he supports legislative action to cap the number of accounts that can be set up for each child. He said he was “troubled” by the idea of a family who took advantage of the process.
Winner said the family that received a $100,000 state contribution to their education accounts “was an extreme case."
But there were 11 other families that received $8,000 or more per child, Winner said. In addition, 244 applicants opened 10 or more accounts. That means those families would have received at least $5,000 in state tax dollars to pay for their child’s education.
Families with more than six matching contributions received nearly $900,000 in state funds.
“The number of applications we received increased by 49% this year," Winner said. “The program continued to see the majority of qualified applications from mid-to-lower income ranges.”