Whether your child was just born or is quickly approaching the college application process, you may want to provide some of the money for their tuition. If this is the case, then a 529 plan might be appropriate for you.
What is a 529 plan?
Simply put, a 529 plan is a tax-advantaged vehicle to save for future college costs. They are sponsored by states or educational institutions, and there are two types of plans:
- Pre-paid tuitions plans (like Washington State’s Guaranteed Education Tuition (GET) program)
- College savings plans (like Nevada’s 529 College Savings Plan)
Pre-paid tuition plans allow you to currently purchase “units” at participating colleges for future tuition. Under many state plans, the “units” you purchase today are guaranteed by the state to keep pace with rising tuition costs. Under the GET program, 100 “units” equate to one year of resident, undergraduate tuition at the highest priced public university in the state. The unit price for 2012 to 2013 is $172. If your child was born today, and you purchased 100 “units,”, it would cost you $17,200. In 18 years when your child begins college, the first year of tuition would be covered by those “units,” regardless of tuition costs at that time.
College savings plans, in contrast, allow someone to establish an account for a student and then select among a variety of investment options. These accounts are not guaranteed by the state – your savings account value fluctuates in accordance with your investments, meaning you are taking on the investment risk in this type of plan. This is in contrast to pre-paid plans where the state takes on the investment risk.
What are the advantages of a 529 plan?
- Investment grows tax-deferred
- Distributions are tax-free if used for qualified college expenses
- Some states allow deductions for contributions, depending on the 529 plan
What are the disadvantages of a 529 plan?
- Non-qualified expenses are subject to income tax and a 10% federal tax penalty on earnings
- There are fees such as enrollment, maintenance and asset management fees depending on the type of plan
- Assets in a 529 plan generally reduce financial aid eligibility because the assets affect the Expected Family Contribution (EFC) calculation
See the SEC page on 529 plans, for a more comprehensive overview. For more detailed advice, our financial advisors would be happy to answer any questions, as well as provide 529 investment recommendations.