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California's 529 Plan Gets High Scores, but Offers No Tax Breaks


Question: I'm intrigued by the new college savings plans known as 529 plans. I have researched the different states' plans and now I'm confused. I live in California, so I was leaning toward our Golden State ScholarShare plan. However, California doesn't offer any income tax deductions or tax credits for contributions. Are there any advantages to staying in the state?

Answer: College savings plans have been a pretty good deal since states began launching them in 1996. They became an even better deal this summer when Congress decided withdrawals from 529 plans would be tax free if used for qualified education expenses.

College savings plans allow you to set aside money for higher education and use the money at any accredited college in any state you choose.

The money you invest is managed by a professional investment firm. In California's case, it's TIAA-CREF, which is the world's largest pension manager.

As you've noticed, some states, including New York and Iowa, also offer tax deductions for contributions to their plans. But you have to live in those states and pay taxes there to qualify for the break.

California's ScholarShare, however, is highly regarded. Accountant Joseph Hurley, a 529 guru who rates state plans, gives ScholarShare four out of five "caps"--his version of a five-star system. The lack of a state tax break keeps it from ranking five caps for residents.

Some people like to stick with their home-grown plan for convenience sake. And some states' plans shut out nonresidents. But enough plans are open to all that it makes sense to investigate several and decide which is best for you. Hurley's Web site and rating system at can help make that easier. You also can find information about college savings plans at the National Assn. of State Treasurers site at You can learn about California's plan by visiting, or by calling (877) 728-4338.

Artificially Low Rate Raises Mortgage Hassle

Q: Recently, my daughter was looking into refinancing her mortgage. I had just sold some stock and deposited the proceeds, approximately $75,000, into a money market account at 3% interest. I asked my daughter whether she was interested in having me pay off her mortgage. The idea would be that I would become her new bank and she would make payments to me at 4%--much less than she would pay a bank, but more than I was getting from my account. I mentioned this to my accountant, who said it would be illegal for me to charge less than 5.57%. Is this a fact? Why would the IRS have such a law?

A: It's not illegal for you to charge artificially low rates for a loan to a family member or anyone else, for that matter. But doing so has gift and income tax consequences, because the difference between what you would charge and what a bank or other lender would charge is considered a gift.

What's considered an artificially low rate? The Internal Revenue Service publishes a monthly list of "applicable federal rates" for short-term, intermediate-term and long-term loans. If you're not charging an interest rate equal to the applicable federal rate, then your loan is generally considered to be charging a below-market rate and special rules about "imputed interest" apply.

There isn't room in this column to adequately cover all the nuances of the imputed interest rules. Suffice it to say that they are complex and baffling even to many accountants. If you care to, you can read about them in most tax-planning guides. If the rules apply, your loan could trigger additional tax reporting requirements each year and could affect your estate plan as well.

There are exceptions to these rules, of course, and one may apply in your case. If not, and you still decide to charge your daughter a low rate, you'll want to have your accountant carefully review the rules with you. You'll also want your accountant to draft a formal loan agreement before you proceed.

Your accountant may have been trying to save you the time and hassle, however. By charging your daughter a slightly higher but still affordable rate, you can avoid all this nonsense while helping her and helping yourself.

Not All Merchants Need Debit Card PINs

Q: Can you stand one more comment about debit cards? I like the idea of using these cards. However, I was outraged when I wanted to use mine in a restaurant and they did not want my personal identification number to complete the transaction. I don't understand why the banks allow it. Wouldn't it be in both the consumer's as well as the bank's interest to always use PINs?

A: Um, no.

The whole point of a debit card is that you can use it just like a credit card but the money comes out of your checking account. Merchants don't have to mess with the contraptions you see at grocery stores that allow you to punch in your PIN. Instead, merchants can process the transaction just as they would a credit card.

Banks like debit and credit card transactions because they can be processed electronically, which is much cheaper than the paper processing required to handle a check payment.

If you don't feel comfortable with that, don't use your debit card anywhere you don't see that PIN contraption.


Liz Pulliam Weston covers personal finance for The Times.

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