March 21, 2002
Montana Board of Regents
FROM: Rod Sundsted
Associate Commissioner for Fiscal Affairs
SUBJECT: Explanation of Amendment Relating to Investment Direction – Montana Family Education Savings Program – Item 114-105-R0302
Section 529 of the Internal Revenue Code states that a program shall not be treated as a qualified tuition program unless it provides that a contributor to, or designated beneficiary under, the program may not directly or indirectly direct the investment of any contributions to the program or any earnings thereon. In response to this provision, Board Policy #950.2, III(D)(3), states in pertinent part:
In accordance with 15-62-201(10), MCA, no contributor to, owner of, or designated beneficiary of an account may directly or indirectly direct the investment of any contributions to an account or any earnings thereon. One or more types of accounts may be opened with respect to a designated beneficiary, but neither the account owner nor the designated beneficiary may move funds or direct that funds be moved from one type of account to another type. … A depository shall not permit an owner to move funds, once deposited, that in any way would result in investment direction under … section 529(b)(6) of the Code … .
In a notice issued in September 2001, the IRS indicated its intent to liberalize its interpretation of the rule prohibiting investment direction. In Notice 2001-55, Internal Revenue Bulletin 2001-39, the IRS stated:
The Internal Revenue Service and the Treasury Department recognize that there are a number of situations that might warrant a change in the investment strategy with respect to a §529 account. Accordingly, the Internal Revenue Service and the Treasury Department expect that the final regulations under §529 will provide that a program does not violate §529(b)(5) if it permits a change in the investment strategy selected for a §529 account once per calendar year and upon a change in the designated beneficiary of the account. It is expected that the final regulations will also provide that, to qualify under this special rule, a program must (1) allow participants to select only from among broad-based investment strategies designed exclusively by the program; and (2) establish procedures and maintain appropriate records to prevent a change in investment options from occurring more frequently than once per calendar year or upon a change in the designated beneficiary of the account.
The notice authorizes section 529 plans and their participants to rely on the notice until final regulations are issued.
The notice permits section 529 plan participants to change investment strategies once per year, but this is now prohibited by the second sentence of Montana’s investment direction prohibition quoted above. This amendment deletes the specific prohibition on moving funds or directing that funds be moved from one type of an account to another type. This will enable plan participants to move funds to the extent permitted by the IRS’s interpretation of the no investment direction rule. The last sentence of Montana’s no investment direction rule continues to prohibit movement of funds that in any way would result in investment direction prohibited by Federal tax law.