Is a Tax Deduction or Credit better for contributions?
Depositing $5,000 per year will have variable results, depending on the state plan. California gives no deduction, Rhode Island deducts up to $1,000 with tax brackets in the 4.8% range. Virginia will deduct up to $4,000 per account for tax payers under 70 years of age. Over 70 year-old Virginians get unlimited deductions!
Contributing to the plans of Indiana, Minnesota, Oregon, Utah, and Vermont will give you a tax credit. Utah credits each account 4.45% up to $227.84 for joint filers, and Oregon up to $380 total (tiered rates). Over numerous years, these contribution accelerators add up to significant owner savings.
Note that deductions are only given as discounts on taxable income, reducing by the tax percentage the amount of income on which you are taxed. If you do not pay significant tax, you will likely not receive significant savings. A credit will be taken off your final tax bill directly, giving a dollar-for-dollar decrease, making it usually the better of the two options.
A $500 tax deduction for a 5% state tax yields only 5% x $500 or $25. A $500 credit yields $500 less in taxes.
James does not want to “pay for all of” his son’s college. He had to work to put himself through school and wants his son to do the same. James can start an account for his son and volunteer to match the son’s contributions up to the state credit of $380 each year, "gifting" only his state tax benefit amount back to the account. The son still enjoys a low-fee no growth tax account, even without parental financial assistance.
No statement or example on this site should be considered a specific recommendation for your personal situation. Investing and tax strategies each carry significant risks. Examples herein may not apply to your situation. Please consult your estate attorney, tax advisor, or financial advisor for personal advice.