When Do 529 Plan Distributions Count as Income on the FAFSA?

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By Mark Kantrowitz

July 17, 2020

Some distributions from a 529 plan count as student income on the Free Application for Federal Student Aid (FAFSA) and some do not, depending on who owns the 529 plan. 

Which 529 Plans Are Reported as Assets and Which as Income?

Student- and parent-owned 529 plans are reported as assets on the Free Application for Federal Student Aid (FAFSA), but distributions from these 529 plans are ignored. 

A 529 plan that is owned by anybody else, such as a grandparent, aunt or uncle, is not reported as an asset on the FAFSA, but distributions count as untaxed income to the student on the FAFSA in a subsequent academic year. 

Wondering how your 529 plan may impact financial aid? Use our Financial Aid Calculator to estimate the expected family contribution (EFC) and your financial need. 

The FAFSA Uses Prior-Prior Year Income

Ever since the 2017-2018 academic year, the Free Application for Federal Student Aid (FAFSA) has used prior-prior year income and tax information instead of prior-year income and tax information.

This means that the 2020-2021 FAFSA is based on 2018 income and tax information.

The switch from prior-year (PY) information to prior-prior year (PPY) information allows the FAFSA to be based on federal income tax returns that have already been filed, as opposed to tax returns that are in the process of being filed. 

Income information does not change by much from one year to the next, except during economic downturns, such as the one caused by the coronavirus pandemic. In such a situation, families can appeal for more financial aid by asking the college to switch their FAFSA from using prior-prior year information to an estimate of income during the academic year, also called the award year.

Running this process in reverse means that income during the 2020 tax year will be reported on the 2022-2023 FAFSA. 

Impact of PPY on When Student Income Affects the FAFSA

Income information during the tax year that begins on January 1 of the student’s sophomore year in high school will affect their financial aid eligibility during the freshman year in college. Income prior to this date does not get reported on the FAFSA.

Income during subsequent tax years will affect the FAFSAs that are filed for subsequent years in college.

If the student will be graduating in four years, income information from the tax year that begins on January 1 of the sophomore year in college will not affect the financial aid they receive during their undergraduate education. 

So, distributions from a grandparent-owned 529 plan starting January 1 of the sophomore year in college will not affect financial aid eligibility, assuming that the student will graduate in four years. If the student will need five years to graduate, then the starting date is January 1 of the junior year in college.

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