What to do with a refund check from a higher education institution

If your beneficiary received a refund from a higher education institution, you may be wondering how to use it efficiently. If the funds originated from your College Savings Iowa account, your best move might be to put the refund back into your account.

When Congress passed the Protecting Americans from Tax Hikes (PATH) Act in 2015, it introduced various enhancements to 529 plans, including a new provision pertaining to refunds from higher education institutions.

On April 10, 2020, the IRS released Notice 2020-23. This notice provides relief for 529 plan participants who received a refund of a distribution from a 529 plan this spring because of the COVID-19 pandemic. The relief would allow for the refund to be recontributed to the 529 plan no later than July 15, 2020, giving most recipients more than the current 60-day period that is allowed under the rules from IRS Notice 2018-58.

As a result, account owners can recontribute a 529 account refund of money paid for qualified higher education expenses back into the same 529 account, or another 529 account for the same beneficiary, without incurring any federal income taxes or penalties—as long as you comply with the following restrictions:  

  • You must recontribute your refund no later than July 15, 2020 for federal tax purposes. 
  • You cannot recontribute more than the amount of your refund.
  • You cannot recontribute a refund that was originally a payment for K–12 expenses.** 

For purposes of Iowa’s income tax, the Department of Revenue will not consider a refund of money withdrawn from an Iowa 529 Plan account as a withdrawal or transfer that is required to be added back when calculating Iowa net income if the following criteria are met: (1) the refunded amounts must be recontributed to the Iowa educational savings plan trust described in Iowa Code chapter 12D (any amounts refunded, but not recontributed may need to be added back when calculating Iowa net income to the extent previously deducted as a contribution to the Iowa 529 Plan); (2) the recontribution must be made to the same account from which the money was originally withdrawn; (3) the recontribution must occur within sixty (60) days of the refund; and (4) the recontribution amount cannot exceed the amount refunded by the educational institution. An Iowa taxpayer cannot deduct the recontribution amount when determining his or her Iowa net income. The recontribution amount Is not taken into account for purposes of determining whether the taxpayer has reached the contribution limit in a given tax year. The Department of Revenue intends to adopt administrative rules that reflect this position in order to clarify the tax treatment of this kind of refund. For more information regarding the Iowa Department of Revenue’s decision on 529 recontributions, visit their website at tax.iowa.gov/COVID-19.

You’ll receive a 1099 for the full (original) distribution amount.  Please refer to IRS Publication 970 and speak with your tax advisor about your specific situation to determine any taxable amount.

If you received a refund check from the education institution and cashed the check, or it was directly credited to your financial institution, you can make a contribution of the refunded amount to your existing 529 account. If you received a refund check from the education institution not payable to College Savings Iowa, simply sign or endorse the back of the check as "payable to College Savings Iowa." Then send us the check along with a signed letter of instruction stating that you want the funds deposited back into your College Savings Iowa account as a recontribution of a previous qualified withdrawal, following the PATH Act rule. Make a copy of both the check and your letter of instruction for your records.

Mailing Address:

Michael L. Fitzgerald

Treasurer of the State of Iowa

College Savings Iowa

PO Box 219219

Kansas City, MO 64121

 

Please note that even if you use the PATH Act recontribution tax privilege, your original withdrawal and 1099-Q tax form will stay the same. Consult a tax advisor to determine any tax liability. 

What if …

Your beneficiary is about to graduate and you don't need to recontribute your refund check to your College Savings Iowa account?

It's still a good idea to recontribute. If you decide to keep the refund, the amount will be considered an unqualified withdrawal, and your earnings may be subject to federal income tax, a 10% federal penalty tax, and state income tax recapture. You can always change your account's beneficiary to another family member or use the account for your own education. Or, since 529 plans never expire, you can keep your College Savings Iowa account growing and compounding for a future beneficiary.

Keep in mind …

Many schools and their finance offices are currently closed, so they may be handling their cash management processes for checks and payments differently. Students may receive refunds in their student account where parents won't see them, and students may not log in to initiate them.  Therefore, if you think you have a refund coming, make sure you:

  • Talk to your student. Ask if they've received a refund credited to their student account or if they've received a refund directly.
  • Keep track of the time frame. Remember, you have until July 15, 2020,* to recontribute your refund to your account federally tax-free.  Iowa taxpayers should consult their tax advisor for the Iowa state tax treatment of their refunds.
  • Retain documentation: It’s important to keep copies of all your refund information on hand for tax purposes, especially if your student receives a check from the school.

Questions?

If you need additional information about the PATH Act and 529 plan recontributions, please read through State Treasurer Michael Fitzgerald’s COVID-19 Response FAQ sheet.

Thank you for investing in College Savings Iowa.

**The PATH Act is specific to recontributions of refunds from an eligible higher education institution. Currently, K–12 doesn't fall under that definition. Account owners are encouraged to consult their tax advisor to understand the impacts of PATH Act changes on their individual situations.

Investment returns are not guaranteed, and you could lose money by investing in College Savings Iowa.

This material may be used in conjunction with the offering of shares of College Savings Iowa portfolios only if preceded or accompanied by the current Program Description.

 

For more information about College Savings Iowa, call 888-323-8501 or visit www.CollegeSavingsIowa.com to obtain a Program Description. Investment objectives, risks, charges, expenses and other important information are included in the Program Description; read and consider it carefully before investing. Vanguard Marketing Corporation, Distributor.

If you are not an Iowa taxpayer, consider before investing whether your or the designated beneficiary’s home state offers any state tax or other benefits that are only available for investments in such state’s qualified tuition program. Other state benefits may include financial aid, scholarship funds and protection from creditors.

College Savings Iowa (the “Plan”) is an Iowa trust sponsored by the Iowa State Treasurer’s Office. The Treasurer of the State of Iowa sponsors and is responsible for overseeing the administration of College Savings Iowa. The Vanguard Group, Inc., serves as Investment Manager and Vanguard Marketing Corporation, an affiliate of The Vanguard Group, Inc., assists the Treasurer with marketing and distributing the Plan. Ascensus College Savings Recordkeeping Services, LLC, provides records administration services. The Plan’s portfolios, although they invest in Vanguard mutual funds, are not mutual funds.

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