State-sponsered 529 plans offer significant tax benefits for college bound students. There are two types of 529 plans available which include guaranteed tuition plans and mutual fund-based plans. In many states the 529 Guaranteed Savings Plans allow parents, grandparents and others to purchase college tuition credits at today’s prices for use in the future, no matter what the inflation rate for college tuition. Mutual fund-based 529 accounts, put the burden of investing on the parents. Most states offer portfolios made up of several mutual funds, and investors choose a portfolio based on their time frame and risk tolerance. Many plans offer age-based portfolios that move the funds into more conservative investiments as your child approaches college age.
The new tax law makes the Section 529 college investments plans very attractive:
- The earnings of a 529 account are not federally taxed as they accumulate. Withdrawals from 529 plans are completely federal tax-free, if the money is spent on qualified educational costs. The investments into 529s are made with after tax dollars. Only cash can be invested into 529 plans.
- Some state plans allow for contributions to and withdrawels from 529 plans to be exempt from state tax. That makes several in-state 529 plans a great choice. Some states have a $2,000 dollar limit exemption of state taxes and a few states have no limit on tax free contributions or withdrawels. Check your state plan in the Links>College Savings Plans>529 Plans
- Any 529 plan can be transfered from one child to another. This is especially good news if the first child does not spend the entire funding amount. Also, you can have one plan for your first child and transfer the plan after the first student graduates, thus saving 529 management fees for two plans, if there is enough break between their college.
- Contributions into 529 plans can be made by parents, grandparents and anyone else that wants to contribute to the childs college fund.
- Many state 529 plans have a maximum contribution of over $200,000, which should satisfy any future college expenses.
- 529 plans have a very high contribution level of $11,000 per year, starting in 2002. Another great feature is that a contributor can fund up to $55,000 as a one time contirbution covering the next five years. This is a great opportunity for wealthy individuals interested in minimizing estate taxes.
- Unlike the old UGMA, the donor controls how the money is spent in a 529 plan. Under the UGMA, when the child becomes an adult, they can spend the money any way they want, even buying a fancy sports car.
Some disadvantages of 529 plans:
- Administrative and management fees for 529 plans are higher than comparable mutual funds. Until your account reaches a minimum level, expect to pay an annual maintenance fee. Many states have more reasonable fee structures, check out the 529 plan links.
- Investment opportunities are restricted to certain mutual funds, limiting the investment potential.
- Expect to pay more if you go through a Broker. If possible, go directly to the state 529 plan. (See Links: College Saving Plans> 529 Plans)