May is drawing to a close, which means a plethora of wonderful things is ahead: summer, pool parties, camp-outs. . . and high school graduation.
As the kids are celebrating their new-found freedom and reveling in that mythical sense of adulthood wafting in with the college acceptance letters, their parents are having a decidedly different experience. University tuition and housing costs have seen an astronomical rise over the past decade, and for some families federal grants simply aren’t an option.
Is the mountain of student loan debt their child will likely accrue over the next four to five years an inevitable reality, or should it be a last resort for most parents?
The welcome truth is that there are welcome alternatives to watching your kids borrow money and go into debt to get through college. One of these is the 529 plan, a tax-advantaged savings plan designed to encourage saving toward future college expenses.
The 529 is essentially a way that parents can leverage their investments and shares into a tax-exempt fund for college tuition. Like everything else bought and sold on the stock market, it has advantages and drawbacks that can be leveraged for the benefit of those that use them, if done wisely.
What are the benefits of a 529 savings plan?
College savings plans have several key advantages over traditional prepaid tuition plans.
First, prepaid plans don’t always include the substantial room and board or food costs that go along with college life. The 529 savings plan includes all costs related to education, including tuition, room & board, mandatory fees, and even the cost of personal computers and textbooks.
The 529 plan also places no restrictions on age, cost of tuition or residency in the state of your child’s university, and enrollment for the plan is open all year. Most prepaid tuition plans place restrictions in each of these areas. Sometimes, out-of-state residents may be required to enroll through a professional financial adviser.
If the specific needs of your child’s education requires you to plan for a higher contribution amount, the 529 plan has a cap in excess of $200,000. Prepaid plans usually set their term limits and contribution amounts in advance, decreasing the flexibility of the quantity contributed.
Okay, but there’s always a catch. What are some potential disadvantages?
The 529 plan is accrued through investments in publicly traded stock and mutual funds. The effectiveness of the savings plan is often affected by market stability and investment reliability. Much of the decrease in the return on investment can be avoided by smart planning and being advised professionally in advance, but there is always a degree of risk involved.
Some states handle financial aid eligibility differently, but most of the time a larger 529 fund will decrease need-based aid eligibility. This works the same way as the other aspects of the FAFSA form. In essence, anything worth money that the family owns (before the child is 25, at least) factors into the amount of money the state expects the family to contribute to the child’s education. The 529 fund would be included in that category.
For Parents Looking to Finish or Earn Another Degree Themselves:
Since it has no age requirement or restriction, the 529 plan can work great for older couples or individuals who want to save up for another degree, or finish the one they put off to settle down and raise kids.
The U.S. Securities and Exchanges Commission (SEC), an agency in the executive branch that oversees the trading and value of shares on the stock market, offers this advice to those thinking about investing in the future of their education:
Before you start saving specifically for college, you should consider your overall financial situation. Instead of saving for college, you may want to focus on other financial goals like buying a home, saving for retirement, or paying off high interest credit card bills. Remember that you may face penalties or lose benefits if you do not use the money in a 529 account for higher education expenses. If you decide that saving specifically for college is right for you, then the next step is to determine whether investing in a 529 plan is your best college saving option. Investing in a 529 plan is only one of several ways to save for college.
So, like a lot of college savings options out there, the 529 plan has its ups and downs. The big benefit, though, is that as long as the money is used for the aforementioned “higher education” purposes, it is essentially tax-free income held aside for that specific purpose.