For years, grandparents were often told to be careful about using a 529 plan to pay for a grandchild’s college education. The problem was not the 529 itself; it was how the FAFSA treated distributions from a grandparent-owned account.
Under the old FAFSA rules, a grandparent could save diligently for a grandchild’s education, only to have withdrawals from that account potentially reduce the student’s eligibility for need-based financial aid in a later year. That made the decision about who should own a 529 account surprisingly important.
The rules have now changed. The FAFSA Simplification Act, which fully phased in with the 2024–25 application cycle, distributions from a grandparent-owned 529 plan are no longer reported as student income on the FAFSA. The grandparent-owned 529 itself also is not reported as a parent or student asset on the FAFSA.
Grandparent-owned 529 plans are now one of the cleanest intersections of education funding, gift planning, and estate reduction available to families — but a meaningful number of grandparents in Southlake, Westlake, and the surrounding DFW communities are still operating under the old playbook.
What Changed With the FAFSA?
Before FAFSA Simplification, the treatment of a grandparent-owned 529 was a little unusual.
The account itself generally was not counted as a FAFSA asset because the grandparent (not the student or parent) owned the account. However, when the grandparent withdrew money to pay for the grandchild’s education, those distributions could be treated as untaxed student income on a subsequent FAFSA.
This could have a significant effect on financial aid eligibility. Student income was assessed much more heavily than parent assets, with as much as 50% of certain student income potentially affecting aid eligibility.
The FAFSA Simplification changes eliminated that treatment.
Under the current (new) FAFSA rules:
- A grandparent-owned 529 is not reported as a FAFSA asset.
- Qualified distributions from a grandparent-owned 529 are not reported as student income.
- Financial support from grandparents and other non-parent sources generally is no longer reported as student income on the FAFSA.
That means grandparents can potentially save for college, maintain control of the account, and use the money for their grandchild’s qualified education expenses without the previous FAFSA penalty. This is why the strategy is sometimes referred to as the “grandparent 529 loophole.”
Strictly speaking, it isn’t a loophole in the sense of exploiting an unintended mistake in the law. It is a result of the rules Congress changed as part of FAFSA Simplification.
A Simple Example
Imagine a grandparent opens a 529 plan for a grandchild and eventually accumulates $100,000. When the grandchild starts college, the grandparent withdraws $20,000 from the account to help cover qualified education expenses.
Under the old FAFSA rules, that $20,000 distribution could have been reported as untaxed student income on a future FAFSA, potentially reducing the student’s eligibility for need-based aid.
Under the current FAFSA rules, that $20,000 distribution is no longer reported as student income on the FAFSA.
The result is a much more favorable relationship between grandparent-funded college savings and federal financial aid.
Should Every Grandparent Open a 529?
The FAFSA change makes grandparent-owned 529 plans more attractive, but account ownership is only one part of the college-planning equation.
There are several factors grandparents should consider before opening or funding an account.
1. Control of the Money:
One of the biggest advantages of a grandparent-owned 529 is that the grandparent remains the account owner.
That means the grandparent generally controls when distributions are made and can change the beneficiary to another eligible family member if circumstances change.
This can be appealing for grandparents who want to help fund education while retaining control over the assets.
By contrast, contributing to a 529 owned by the child’s parent may give the parent more control over the funds.
2. The Tax Benefits Still Matter:
The FAFSA treatment isn’t the only reason to consider a 529.
529 plans are designed to provide tax-advantaged growth for qualified education expenses. If the money is used for eligible expenses, earnings can generally be withdrawn federally tax-free.
Depending on the state, there may also be state-specific tax benefits for contributions.
For Texas families, this distinction is particularly important because Texas does not impose a state individual income tax, so there is no Texas state income-tax deduction for 529 contributions.
That means families should look at the overall tax and financial-planning picture rather than assuming every state’s 529 works the same way.
3. Grandparents Need to Consider Gift-Tax Rules:
Contributing to a 529 is generally considered a gift to the beneficiary for federal gift-tax purposes.
For 2026, the annual gift-tax exclusion is $19,000 per recipient. A special 529 provision also allows a donor to make a larger contribution and elect to treat it as though it were made ratably over five years.
For example, a grandparent could potentially contribute $95,000 for one grandchild and elect the five-year treatment, effectively spreading the gift over five years for gift-tax purposes.
For grandparents with larger estates, however, this decision should be coordinated with the broader estate plan. A large 529 contribution may have gift- and generation-skipping-transfer-tax considerations even when no immediate gift tax is owed.
Where The Strategy Still Doesn’t Work
This is where the article most advisors write stops, and where families get into trouble. The FAFSA is not the only form in play.
The CSS Profile still poses a possible problem. Roughly 200 institutions (which is heavily weighted toward selective private colleges and a handful of flagship public schools) use the CSS Profile to allocate their own institutional aid dollars. The CSS Profile continues to ask about resources expected from relatives and about 529 accounts held for the student’s benefit by someone other than a parent. If a student is applying to CSS Profile schools, the grandparent 529 is very likely to be counted, and each institution applies its own methodology.
Institutional forms and outside-resource policies vary. Some schools ask directly about third-party payments in their own supplemental paperwork. Some reduce institutional grant aid dollar-for-dollar against outside resources. Reading the policy before the money moves is worth the fifteen minutes it takes.
Keep in mind though, that aid eligibility has to exist in the first place for any of this to be an issue. For many DFW families with meaningful household income, need-based federal aid is not in the picture at any dollar amount. That doesn’t make the grandparent 529 a bad idea since the gift and estate benefits stand on their own, but it does mean the “loophole” framing isn’t the reason to do it.
What If the Grandparent Already Has a 529?
There may be no reason to change anything.
If a grandparent already owns a 529 for a grandchild, the current FAFSA rules are significantly more favorable than they were before FAFSA simplification.
Grandparents should not automatically transfer ownership simply because they previously heard that grandparent-owned 529 plans could hurt financial aid. In fact, transferring ownership without considering the tax, estate-planning, and financial-aid consequences could create unnecessary complications.
The better approach is to look at:
- Who currently owns the account
- Who is the beneficiary
- How much has been saved
- When the money is expected to be used
- Whether the student may qualify for need-based aid
- Whether potential colleges use the CSS Profile
- The grandparent’s estate and gift-tax situation
- The family’s overall college-funding strategy
A Grandparent 529 Can Be More Than a College Savings Account
For families who have grandparents willing and able to help with college costs, the new FAFSA rules create an interesting planning opportunity.
A grandparent can potentially build a dedicated education fund, maintain control over the assets, allow the money to grow tax-advantaged, and later use the funds for a grandchild’s qualified education expenses without the distribution being treated as student income on the FAFSA.
That is a meaningful change from the old rules.
It also highlights an important lesson in college planning: the question isn’t simply how much you save for college. It’s where the money is held, who owns it, when it is distributed, and how that strategy fits into the family’s broader financial plan.
The Bottom Line for Grandparents
FAFSA Simplification changed the equation for grandparent-owned 529 plans.
What was once a potential financial-aid disadvantage can now be a compelling planning strategy for families who want grandparents to help fund college.
For the 2024–25 FAFSA and later, grandparent-owned 529 assets aren’t reported on the FAFSA, and distributions from those accounts aren’t reported as student income.
But that doesn’t mean a grandparent 529 is automatically the right answer for every family. The best strategy depends on the family’s expected financial-aid eligibility, college choices, tax situation, estate plan, and desired control over the money. At Mills Wealth Advisors, we work with families across Southlake and the DFW area to bring all these factors together so a well-intentioned gift from a grandparent actually produces the outcome everyone had in mind.