The Minnesota Nice 529 Plan Tax Credit OR Deduction

In 2017 Minnesota finally joined the ranks of other states that offer an incentive for those using 529 Plans for education planning. Over 30 states now offer a tax incentive to leverage the power of 529 Plans.

In a very Minnesota Nice way, the deduction is allowed even if you contribute to another state’s 529 Plan. This makes taking advantage of the tax benefit even more attractive. In addition, the potential tax savings is one of the largest in the nation, depending on tax-filing status and contribution amount.

To be even Minnesota Nicer, Minnesotans are able to choose between a tax credit and a tax deduction. A tax credit reduces your tax liability dollar for dollar, a tax deduction reduces your taxable income. They can claim ONE of these progressive tax-parity benefits in any given tax year.  

So, how much is it?

  • The deduction: Up to $3,000 for a married couple filing jointly or $1,500 for all other filers for contributions made to a qualified 529 account.
  • The credit: A credit can be claimed for half of contributions up to $500 (subject to income phase-out starting at a federal adjusted gross income (AGI) of $75,000 for single filers). The credit is reduced by any withdrawals made by that taxpayer during the taxable year.

Incoming rollovers from another 529 account are not eligible for the tax deduction or credit.

The difficult part of this new benefit is understanding the credit and interpreting whether a taxpayer will benefit more from the deduction or credit when they fall in between the income brackets.

Click Here For A Copy Of the Law 1st Engrossment – 90th Legislature, 2017 1st Special Session (2017 – 2017)

Single Filers

The precise language is, “For individual filers, the maximum credit is reduced by two percent of adjusted gross income in excess of $75,000.” If you grab your calculators, you will find that the benefit is reduced until it hits zero at income of $100,000.

If your income is less than $75,000, then it’s easy! You would most likely take the credit. If greater than $100,000 then you would most likely take the deduction. But, what if you fall in the middle? Somewhere between $75,000 and $100,000? Then you would need to do your own calculation (or use the online tool from www.SavingForCollege.com) based on your own circumstances, but here are some examples to give you reference points:

Income/Contribution Examples:

(Assumes Taxpayer is Itemizing, Which Is Less Relevant With The 2018 Tax Changes – Your Exact Figure May Vary)

$80,000 Income

o  $600 Contribution

  •  Credit
  •      Decrease in state taxes: $400
  •      Less the increase in federal tax for itemizers: -$88
  •      Net tax savings: $322
  •  Deduction
  •      Decrease in state taxes: $42
  •      Less the increase in federal tax for itemizers: -$9
  •      Net tax savings: $33

o  $10,000 Contribution

  •  Credit
  •      Decrease in state taxes: $400
  •      Less the increase in federal tax for itemizers: -$88
  •      Net tax savings: $322
  •  Deduction
  •      Decrease in state taxes: $106
  •      Less the increase in federal tax for itemizers: -$23
  •      Net tax savings: $83

$95,000 Income

o  $600 Contribution

  •  Credit
  •      Decrease in state taxes: $100
  •      Less the increase in federal tax for itemizers: -$24
  •      Net tax savings: $76
  •  Deduction
  •      Decrease in state taxes: $47
  •      Less the increase in federal tax for itemizers: -$11
  •      Net tax savings: $36

o  $10,000 Contribution

  •  Credit
  •      Decrease in state taxes: $100
  •      Less the increase in federal tax for itemizers: -$24
  •      Net tax savings: $76
  •  Deduction
  •      Decrease in state taxes: $118
  •      Less the increase in federal tax for itemizers: -$28
  •      Net tax savings: $90

Married Filers

The language for married couples makes the new legislation even more confusing. Trying to be nice to everyone can make things too complex. The new rule states that:

  1. For married couples with AGI in excess of $75,000, but not more than $100,000, the maximum credit is reduced by one percent of adjusted gross income in excess of $75,000;
  2. For married couples with AGI in excess of $100,000, but not more than $135,000, the maximum credit is $250; and
  3. For married couples with AGI in excess of $135,000, the maximum credit is $250, reduced by one percent of AGI in excess of $135,000.

For married couples the tax credit begins to phase out at $75,000, with the benefit hitting zero at $160,000 in income due to the reduction, and after which it will most likely be better to take the deduction. In most cases up to $135,00 in income, the tax credit will be more advantageous than the deduction. The range of income where it becomes tricky, and you will need to run scenarios (www.SavingForCollege.com calculator), is the income range of $135,000 to $160,000.

While very complex, the Minnesota benefit is one of the best in the nation. Do be careful if you do not use the funds for a qualified expense (you take a nonqualified distribution from your 529 Plan). All prior year tax benefits are subject to recapture in the event of a non-qualified distribution. Depending on how many years a family has been saving, it could mean thousands.

The new benefit really provides a boost to lower-income savers and even a little something for middle-to-upper middle classes too. The only downside is in its attempt at tax parity, it is too complex for most taxpayers.

Please do your homework and/or consult a tax professional or fee-only financial planner before making any decisions. SavingForCollege.comhas a great calculator that can help you run scenarios. It and Morningstar.comalso have great 529 Plan rankings and tools to help you too.

Happy Saving!