Municipal Fund Securities Products: 529 Plans, ABLE Programs, and LGIPs
Three product families
A 529 qualified tuition program comes in two forms. A savings plan is an investment account whose value rises or falls with the underlying portfolio; a prepaid plan sells tuition credits or units, often with a state guarantee. Earnings grow federal-income-tax deferred, and withdrawals are tax-free only when used for qualified higher-education expenses - tuition, fees, books, supplies, required equipment, and room and board for at least half-time students - plus limited K-12 tuition and student-loan repayment amounts. Non-qualified withdrawals trigger ordinary income tax on earnings plus a 10% federal penalty, and states may recapture deductions.
An ABLE program (IRC 529A) is a sibling for disability expenses. Contributions are after-tax and capped annually at the gift-tax annual exclusion per contributor; earnings grow tax-deferred and qualified disability distributions are tax-free. The beneficiary must have an age of onset of disability within the statutory limit, and ABLE balances receive limited SSI resource protection, with Medicaid payback rules on death.
An LGIP is a pooled investment vehicle for government entities' public funds. It is typically managed to a stable $1 net asset value but is not a money-market fund and is not FDIC insured. Individuals cannot buy LGIP interests.
Rule of thumb
Tax-free treatment depends on matching the withdrawal to a qualified expense in the same tax year and keeping documentation. If the purpose or documentation fails, the earnings are taxable and possibly penalized.
Worked example
A 529 owner withdraws $5,000; $1,200 is earnings. Only $3,000 is used for qualified tuition. The $2,000 non-qualified portion includes $480 of earnings, taxable as ordinary income plus a $48 federal penalty, before any state recapture.