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Kathy Zambrano

LEGAL OPINION
TO: Legislative Council Staff Economists

FROM: Office of Legislative Legal Services

DATE: February 27, 2018

SUBJECT: The deductibility of K-12 contributions to 529 accounts in Colorado1, 2

Legal Questions
Two questions have arisen with respect to changes to Section 529 of the Internal
Revenue Code (IRC) in the Tax Cuts and Jobs Act of 2017 (TCJA). First, whether
contributions to Colorado's qualified tuition program for later distribution to a
designated beneficiary for K-12 expenses, as allowed in the TCJA, qualify for the state
income tax deduction? Second, if the state income tax deduction is allowed for such
contributions in Colorado, would the deduction be subject to recapture when
distributions are made for K-12 expenses?

1
This legal memorandum results from a request made to the Office of Legislative Legal Services (OLLS), a staff
agency of the general assembly, in the course of its performance of bill drafting functions for the general assembly.
OLLS legal memoranda do not represent an official legal position of the general assembly or the State of Colorado
and do not bind the members of the general assembly. They are intended for use in the legislative process and as
information to assist the members in the performance of their legislative duties.

2
This memorandum is not intended to give legal advice for Colorado income tax filers and only addresses the legal
question for the general assembly. Taxpayers are encouraged to seek the advice of a tax professional with respect to
claiming a Colorado income tax deduction described in this memorandum on his or her personal state income tax
return.
 Short Answer
Yes, contributions to Colorado's qualified tuition program for later distribution to a
designated beneficiary for K-12 expenses qualify for the state income tax deduction.

Yes, the deduction would be subject to recapture when distributions are later made for
K-12 expenses.

Discussion
1. Explanation of the Issue

Section 529 of the Internal Revenue Code (IRC) allows income tax free distributions
for qualified higher education expenses from a qualified tuition program for both the
contributor to the program on behalf of a beneficiary and for the beneficiary of the
program, so long as certain requirements are met. (For relevant portions of Section
529, see Addendum A.) The federal statute requires that the qualified tuition programs
be established and maintained by the states. Colorado's qualified tuition programs are
established and maintained by Collegeinvest, an authority created within the
Department of Higher Education by section 23-3.1-203, C.R.S.

Colorado encourages contributions to qualified tuition programs by offering two state

income tax deductions in section 39-22-104 (4)(i), C.R.S. (See Addendum B.) The first
deduction is for any distribution from the qualified tuition program that will be
counted as income for federal tax purposes. This is a deduction that is very unlikely to
be used because most, if not all, of such distributions will not be counted as income
for federal tax purposes. The second deduction is for all contributions made during the
taxable year to the qualified tuition program. However, the statute also provides that
the Colorado Department of Revenue (DOR) may recapture the deduction from a
taxpayer if the distribution, refund, or other withdrawal from the qualified tuition
program is for any reason other than (1) to pay for qualified higher education expenses,
(2) as a result of the beneficiary's death or disability, or (3) as a result of receiving a
scholarship.

The Tax Cuts and Jobs Act (TCJA) modified Section 529 of the IRC to include
income tax free distributions from such plans, up to $10,000 per student, for the
enrollment or attendance of the designated beneficiary at a public, private, or religious
elementary or secondary school, including distributions for certain expenses incurred
in connection with a homeschool (K-12 expenses). (For relevant portions of the TCJA,
see Addendum C.) Congress included these changes as amendments to Section 529 (c)
by adding a new subsection (c)(7).

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Section 39-22-104 (4)(i), C.R.S., sets forth the income tax deductions for Colorado
personal income tax purposes. As with most tax laws, Colorado's income tax
deductions related to 529 plans include definitions. Those definitions are set forth in
section 39-22-104 (4)(i)(IV), C.R.S., as follows:
39-22-104. Income tax imposed on individuals, estates, and trusts - single
rate - legislative declaration - definitions - repeal. (4) There shall be subtracted
from federal taxable income:
(i) (IV) As used in this paragraph (i), "designated beneficiary" means a des-
ignated beneficiary as defined in section 529 (e)(1) of the internal revenue code,
"qualified state tuition program" means a qualified state tuition program as
defined in section 529 (b) of the internal revenue code, and "qualified higher
education expenses" means qualified higher education expenses as defined in
section 529 (e)(3) of the internal revenue code. (Emphasis added)

The definitions in Colorado's income tax deductions refer very specifically to the
definitional sections in Section 529 of the IRC, found in Sections 529 (b) and 529
(e)(3). The TCJA amended Section 529 (c), not Sections 529 (b) or 529 (e)(3).

The TCJA also implemented a $10,000 cap on the amount of distributions from a 529
account that may be used for K-12 expenses. That change was accomplished by adding
the cap language to the end of Section 529 (e)(3)(A). The cap makes reference to
Section 529 (c)(7), but does not by itself change the definitions in Section 529 (b) or
529 (e)(3).

The TCJA amendment to Section 529 (c) further specifies that "Any reference in this
subsection to the term 'qualified higher education expense' shall include a reference to
. . ." (Emphasis added). This means that the change to the definition of "qualified
higher education expense" only applies to subsection (c) and not to any other
subsections found in Section 529. Consequently, the TCJA amendments affirmatively
apply to Section 529 (c) and by omission do not apply to Sections 529 (b) or 529 (e),
the subsections specifically referred to in Colorado's definitions section for purposes of
section 39-22-104 (4)(i), C.R.S.

2. Deductibility of the Contribution

Section 39-22-104 (4)(i)(II), C.R.S., which allows the Colorado income tax deduction
for 529 contributions, refers generally to a "qualified tuition program . . . that is
established and maintained pursuant to section 529 of the internal revenue code or
any successor section." (Emphasis added). This could be read to mean that the TCJA
amendments to Section 529 (c) apply to the Colorado income tax deduction for

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contributions, thereby allowing a taxpayer to claim an income tax deduction for
contributions for K-12 expenses in Colorado.

Because of how the TCJA was written, there is now an ambiguity between the
application of section 39-22-104 (4)(i)(II), C.R.S., and the definitions section in 39-22-
104 (4)(i)(IV), C.R.S. In the event of such an ambiguity, we look to section 2-4-205,
C.R.S., which specifies that if a general provision conflicts with a special provision and
the conflict is irreconcilable between both, the special provision prevails.

In this case, the definitions in section 39-22-104 (4)(i)(IV), C.R.S., were included when
section 39-22-104 (4)(i), C.R.S., was first enacted in 1997, and the substance of those
definitions have not been subsequently amended, just renumbered. However, the
general reference to "section 529 of the internal revenue code or any successor section"
found in the section allowing the income tax deduction for contributions to a qualified
tuition program (section 39-22-104 (4)(i)(II), C.R.S.) was added later, in 2000, and that
language was presumably used to show the intent that the deduction be allowed for
any contributions to Colorado 529 plans, even if the federal law changes in the future.
Therefore, the exception to the "special or local provision prevails over general"
statutory construction rule applies in this situation, because the general provision was
the later enactment, allowing a taxpayer who contributes to a Colorado qualified
tuition program for K-12 expenses to claim a state income tax deduction for such
contribution.

From a practical perspective, there also appears to be no way for the DOR to know
what a taxpayer's contribution to a 529 will be used for in the future (higher education
or K-12), and this fact supports the conclusion that a taxpayer who contributes to a
Colorado qualified tuition program for K-12 expenses may claim a state income tax
deduction for such contribution.

3. Recapture of the Deduction

Section 39-22-104 (4)(i), C.R.S., includes a recapture provision so that if the money in
the qualified tuition program is distributed for unauthorized reasons, the DOR can
recapture the deduction from the taxpayer.

This means that the DOR can get back, in the year the distributions are made, any
deductions a taxpayer was allowed when distributions are used for any purpose other
than those listed in section 39-22-104 (4)(i)(III)(A) through (4)(i)(III)(C), C.R.S. In
other words, a recapture will not occur if the distribution is used "to pay for a qualified
higher education expense" or for two other purposes not relevant to this discussion.
Section 39-22-104 (4)(i)(III)(A), C.R.S., does not define "qualified higher education

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expense" and it also does not make reference to Section 529 in general (in contrast to
section 39-22-104 (4)(i)(II), C.R.S., discussed above). Consequently, the definition of
that term in section 39-22-104 (4)(i)(IV), C.R.S., applies. A recapture will not occur if
the distribution is to pay for "qualified higher education expenses" as defined in
Section 529 (e)(3).
39-22-104. Income tax imposed on individuals, estates, and trusts - single
rate - legislative declaration - definitions - repeal. (4) There shall be subtracted
from federal taxable income:
(i) (IV) As used in this paragraph (i), "designated beneficiary" means a des-
ignated beneficiary as defined in section 529 (e)(1) of the internal revenue code,
"qualified state tuition program" means a qualified state tuition program as de-
fined in section 529 (b) of the internal revenue code, and "qualified higher edu-
cation expenses" means qualified higher education expenses as defined in sec-
tion 529 (e)(3) of the internal revenue code. (Emphasis added)

However, as discussed in Section 1. of the discussion above, the definitions for

Colorado's income tax deductions refer very specifically to the definitional sections in
Section 529 of the IRC, found in 529 (b) and 529 (e). Since the TCJA amended only
Section 529 (c), not Sections 529 (b) or 529 (e)(3), the changes in the TCJA allowing
for income tax free distributions for K-12 expenses do not apply to the Colorado
recapture law by virtue of the definitions. In other words, "qualified higher education
expenses" in Colorado do not include K-12 expenses and the DOR can seek recapture
of the taxpayer's deduction if the distributions are made for K-12 expenses.

Conclusion
Contributions to Colorado's qualified tuition program for later distribution to a
designated beneficiary for K-12 expenses do qualify for the state income tax deduction,
but the deduction would be subject to recapture when distributions are later made for
K-12 expenses.

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 Addendum A
Relevant Portions of Section 529 of the Internal Revenue Code

§ 529. Qualified tuition programs.

(b) Qualified tuition program. For purposes of this section—
(1) In general. The term "qualified tuition program" means a program
established and maintained by a State or agency or instrumentality thereof
or by 1 or more eligible educational institutions—
(A) under which a person—
(i) may purchase tuition credits or certificates on behalf of a designated
beneficiary which entitle the beneficiary to the waiver or payment of quali-
fied higher education expenses of the beneficiary, or
(ii) in the case of a program established and maintained by a State or
agency or instrumentality thereof, may make contributions to an account
which is established for the purpose of meeting the qualified higher educa-
tion expenses of the designated beneficiary of the account, and
(B) which meets the other requirements of this subsection. Except to the
extent provided in regulations, a program established and maintained by 1
or more eligible educational institutions shall not be treated as a qualified
tuition program unless such program provides that amounts are held in a
qualified trust and such program has received a ruling or determination that
such program meets the applicable requirements for a qualified tuition pro-
gram. For purposes of the preceding sentence, the term "qualified trust"
means a trust which is created or organized in the United States for the ex-
clusive benefit of designated beneficiaries and with respect to which the re-
quirements of paragraphs (2) and (5) of section 408(a) are met.
(2) Cash contributions. A program shall not be treated as a qualified
tuition program unless it provides that purchases or contributions may only
be made in cash.
(3) Separate accounting. A program shall not be treated as a qualified
tuition program unless it provides separate accounting for each designated
beneficiary.
(4) Limited investment direction. A program shall not be treated as a
qualified tuition program unless it provides that any contributor to, or desig-
nated beneficiary under, such program may, directly or indirectly, direct the
investment of any contributions to the program (or any earnings thereon) no
more than 2 times in any calendar year.
(5) No pledging of interest as security. A program shall not be treated as
a qualified tuition program if it allows any interest in the program or any
portion thereof to be used as security for a loan.

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 (6) Prohibition on excess contributions. A program shall not be treated as a
qualified tuition program unless it provides adequate safeguards to prevent con-
tributions on behalf of a designated beneficiary in excess of those necessary to
provide for the qualified higher education expenses of the beneficiary.
(e) Other definitions and special rules. For purposes of this section—
(3) Qualified higher education expenses.
(A) In general. The term "qualified higher education expenses" means—
(i) tuition, fees, books, supplies, and equipment required for the enrollment
or attendance of a designated beneficiary at an eligible educational institution;
(ii) expenses for special needs services in the case of a special needs benefi-
ciary which are incurred in connection with such enrollment or attendance
(iii) expenses for the purchase of computer or peripheral equipment (as de-
fined in section 168(i)(2)(B)), computer software (as defined in section
197(e)(3)(B)), or Internet access and related services, if such equipment, soft-
ware, or services are to be used primarily by the beneficiary during any of the
years the beneficiary is enrolled at an eligible educational institution. Clause (iii)
shall not include expenses for computer software designed for sports, games, or
hobbies unless the software is predominantly educational in nature. The amount
of cash distributions from all qualified tuition programs described in subsection
(b)(1)(A)(ii) with respect to a beneficiary during any taxable year shall, in the
aggregate, include not more than $10,000 in expenses described in subsection
(c)(7) incurred during the taxable year.
(B) Room and board included for students who are at least half-time.
(i) In general. In the case of an individual who is an eligible student (as
defined in section 25A(b)(3)) for any academic period, such term shall also in-
clude reasonable costs for such period (as determined under the qualified tuition
program) incurred by the designated beneficiary for room and board while at-
tending such institution. For purposes of subsection (b)(6), a designated benefi-
ciary shall be treated as meeting the requirements of this clause.
(ii) Limitation. The amount treated as qualified higher education expenses
by reason of clause (i) shall not exceed—
(I) the allowance (applicable to the student) for room and board included in
the cost of attendance (as defined in section 472 of the Higher Education Act of
1965 (20 U.S.C. 1087ll), as in effect on the date of the enactment of the Eco-
nomic Growth and Tax Relief Reconciliation Act of 2001) as determined by the
eligible educational institution for such period, or
(II) if greater, the actual invoice amount the student residing in housing
owned or operated by the eligible educational institution is charged by such in-
stitution for room and board costs for such period.

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 Addendum B
Section 39-22-104, Colorado Revised Statutes

39-22-104. Income tax imposed on individuals, estates, and trusts -

single rate - legislative declaration - definitions - repeal. (4) There shall be
subtracted from federal taxable income:
(i) (I) For income tax years commencing on or after January 1, 1998, an
amount equal to the portion attributable to interest and other income of a
distribution under a qualified state tuition program that is distributed for the
purpose of meeting qualified higher education expenses of a designated ben-
eficiary, to the extent such amount is included in federal taxable income;
(II) For income tax years commencing on or after January 1, 2001, an
amount equal to all payments or contributions made during the taxable year
under an advance payment contract, to a savings trust account, or otherwise
in connection with a qualified state tuition program established by collegein-
vest created in section 23-3.1-203, C.R.S., or to a qualified state tuition pro-
gram that is affiliated with an educational institution in the state and that is
established and maintained pursuant to section 529 of the internal revenue
code or any successor section;
(III) No exclusion shall be allowed pursuant to this paragraph (i) to the
extent that such payments or contributions are excluded from the taxpayer's
federal taxable income for the taxable year. Any exclusion taken under this
paragraph (i) shall be subject to recapture in the taxable year or years in
which any distribution, refund, or any other withdrawal is made pursuant
to an advance payment contract, from a savings trust account, or otherwise
in connection with a qualified state tuition program for any reason other
than:
(A) To pay qualified higher education expenses;
(B) As a result of the beneficiary's death or disability; or
(C) As a result of receiving a scholarship and as long as the aggregate
amount of distributions, refunds, or withdrawals made pursuant to this sub-
subparagraph (C) do not exceed the amount of the scholarship provided dur-
ing such tax year.
(IV) As used in this paragraph (i), "designated beneficiary" means a des-
ignated beneficiary as defined in section 529 (e)(1) of the internal revenue
code, "qualified state tuition program" means a qualified state tuition pro-
gram as defined in section 529 (b) of the internal revenue code, and "qual-
ified higher education expenses" means qualified higher education ex-
penses as defined in section 529 (e)(3) of the internal revenue code. (Em-
phases added)

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 Addendum C
Relevant Portions of the Tax Cuts And Jobs Act of 2017

SEC. 11032. 529 ACCOUNT FUNDING FOR ELEMENTARY AND

SECONDARY EDUCATION.
(a) IN GENERAL.—
(1) IN GENERAL.—Section 529(c) is amended by adding at the end the
following new paragraph:
“(7) TREATMENT OF ELEMENTARY AND SECONDARY TUI-
TION.—Any reference in this subsection to the term ‘qualified higher education
expense’ shall include a reference to—
“(A) expenses for tuition in connection with enrollment or attendance at
an elementary or secondary public, private, or religious school, and
“(B) expenses for—
“(i) curriculum and curricular materials,
“(ii) books or other instructional materials,
“(iii) online educational materials,
“(iv) tuition for tutoring or educational classes outside of the home (but only
if the tutor or instructor is not related (within the meaning of section 152(d)(2))
to the student),
“(v) dual enrollment in an institution of higher education, and
“(vi) educational therapies for students with disabilities, in connection with
a homeschool (whether treated as a homeschool or a private school for purposes
of applicable State law).”.
(2) LIMITATION. —Section 529(e)(3)(A) is amended by adding at the end
of the following: "The amount of cash distributions from all qualified tuition
programs described in subsection (b)(1)(a)(ii) with respect to a beneficiary during
any taxable year shall, in the aggregate, include not more than $10,000 in ex-
penses described in subsection (c)(7) incurred during the taxable year.".
(b) EFFECTIVE DATE. —The amendments made by this section shall ap-
ply to distributions made after December 31, 2017.

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