Know Your 529 College Savings Plans
With college costs increasing at astronomical rates, as much as 30% a year as in the case of California schools, the need for a solid college savings plan is greater than ever. As an incentive for parents, Congress amended the tax code to allow for tax favored savings through Section 529 college savings plans. Two very different types of savings plans evolved from there – one, a 529 college savings plan, and the other, a 529 prepaid tuition plan. Both provide tax incentives, but they also take you on two very different paths to saving for a college education.
529 college savings plans invest your contributions in mutual fund accounts so the amount you will have for funding college expenses is based on how much you contribute and the investment return – the investor assumes all of the risks for accumulating enough for college. In a prepaid tuition plan, the state or, in the case of private schools, the college may assume the risk by guaranteeing that your contributions will accumulate enough credits to be used for college tuition (excludes room and board).
With the account values in the college savings plans being whipsawed by the volatile markets, prepaid tuition plans, which have been considered to be “no-risk” plans, are becoming a popular choice for safety conscious parents. But, parents need to be careful and read the fine print of these plans. While they can offer a great value, they do come with some restrictions, the biggest of which is that the credits are only good at colleges within the state (for state-run plans). Or, with private plans, the credits are only good at schools participating in the plan. So, if your child attends a school outside of the plan, you could end up losing much of the interest that would otherwise have been credited.
In addition, due to budget problems, many states are weakening the guarantee provisions of their plans which means you could come up short. While prepaid plans do provide a viable alternative for college savings, they should be thoroughly reviewed to ensure they fit your children’s college plans.