Advantages and Disadvantages of Different 529 Education Savings Plans

529 Education Savings Plans

Post-secondary education is expense, and tuition and room and board rates continue to grow faster than annual inflation. Luckily, all 50 state governments offer at least one major education savings plans to their residents, allowing parents to save for over a decade through tax-advantaged 529 plans for their children’s futures.

Many different agencies offer their own variations of college savings investment opportunities and plans, including states, divisions of states, individual colleges, or consortiums of colleges. Each provider creates different rules for their long-term education savings plans, but all 529s can be sorted into one of two categories: college savings plans and pre-paid tuition plans.

Type #1: College Savings Plans

College savings plans tend to work as specialized investment options with favorable tax treatment on qualified, education-related expenses.

Advantages

  • Broad definition of acceptable expenses, including all fees required to attend and live at the university, plus coverage for textbooks and all necessary equipment and electronics to attend class.
  • In most plans, the 529 contribution limit set high, at well over $200,000 per savings plan.
  • The plans will adjust automatically to more conservative investments as the investee nears college age.
  • There are no age or other restrictions on the student who can benefit from this savings plan.

Disadvantages

  • These are investments that may fluctuate significantly in value, and there is no guarantee that they will be able to keep up with the yearly tuition rate increases.
  • Your investment options will be limited to several major categories, much like the investment plans offered by company-sponsored retirement plans. U
  • Usually you will not be able to switch plans or make asset allocation adjustments more often than once a year.

Type #2: Prepaid Tuition Plans

By participating in a prepaid education plan, you can essentially pre-pay for your child’s college education by locking in tuition rates at participating universities.  Prepaid 529 tuition plans are generally much more restrictive, but with correspondingly more beneficial financial treatment.

Advantages

  • The plan is backed through a state government or government agency and guaranteed to be honored upon the beneficiary entering college.
  • It is impossible to predict future college costs, but this is likely the less expensive option in the long-term than paying for tuition costs in the future.
  • Once funds have entered the account, stock market and economy fluctuations cannot drive down the value of the plan.

Disadvantages

  • Either the account holder or the beneficiary (usually) must be a resident of the state in which the selected university is located.
  • There are usually grade level and age limits on when contribution must begin, and when the beneficiary is too old to receive the pre-paid tuition credits.
  • Room and board and other education supplies purchases are not included in the prepaid tuition plans, though some plans offer the option to pay more to cover these expenses, too.

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Things You Should Know About Both Education Savings Plans

Both types of plans invoke penalties if you do not use the accumulated funds for approved expenses, usually an additional penalty deduction over the normal income tax, but the college savings plan has a much broader definition of what qualifies as an education expense.

Many states allow account holders to deduct contributions to 529 plans, but only if it is a plan for the estate in which the account holder resides; though rarely states allow deductions for contributions to any 529 plans in any state.

Both plans may have significant fees associated with them, with initial and periodic administrative fees associated with pre-paid tuition plans and asset management fees commonly incurred on college savings plans. These fees may be reduced for large investment amounts, or through buying into education plans directly through the state or state agency, though you may have to ask the provider to get the discount.

One Last Tip

Finally, before you decide on a specific plan, read the plan’s offering circular, their complete breakdown of all investment details, options, and potential and required plan fees. This document may be termed a “disclosure statement” or “program description” by the plan provider and will provide a full disclosure of all relevant details you need to know to make an informed college savings plan decision.

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