Paying for college is a serious challenge for many families. According to the College Board, average annual tuition, fees, room and board for a four-year private college in 2013 was $40,917.
With college costs rising and grants and scholarships decreasing, most parents will need to fund their children's education the old-fashioned way, through savings and investments.
Several programs and investment approaches are available to help you save for college, including custodial accounts (UGMAs/UTMAs), Coverdell Education Savings Accounts, 529 college savings plans and prepaid tuition plans. Of these approaches, the 529 savings plan has deservedly received a lot of attention.
Under Section 529 of the Tax Code, the Federal Tax Act of 1997 allowed states to structure tax-deferred savings programs aimed at college savings. Since inception, the popularity of 529 college savings plans has swelled, and today there are 92 different plans throughout the United States.
529 college savings plans allow contributions for any individual beneficiary you choose -- your child, grandchild or even yourself. A variety of investment strategies are available and funds are professionally managed. While all 529 savings programs are state-sponsored, most are open to residents of any state. In general, funds from a 529 can be used for higher education costs at any accredited institution and/or those that are eligible to participate in Title IV federal financial aid programs.
Some of the most important advantages of 529 savings plans are tax related. Money invested in a 529 plan grows tax-deferred and can be withdrawn free of federal tax for qualified college expenses, which include tuition, fees, room, board, books and supplies. Although contributions are not deductible on your federal income tax return, certain states allow an income tax deduction for residents who contribute to that state's 529.
Unlike a custodial account, in which the child gains complete control of assets at age of majority, the 529 plan remains in the control of the owner. The flexibility of the 529 plan allows the owner to change beneficiaries to another family member at any time without penalty. For example, if oldest child Johnny receives a football scholarship, the account can be transferred to his brother.
Generally, there are no income limitations or age restrictions in setting up a 529. Everyone is eligible to take advantage of a 529 plan, and some plans allow you to open an account with as little as $25. Total contribution limits are high (more than $300,000 per beneficiary in some states).
Before opening a 529 Plan, it is essential that an investor understand that any distributions that are not for educational purposes will involve penalties.
Not all 529 plans are created equal: Some are directly sold and others are broker-sold, generally with a sales load or commission. Investment options and ongoing expenses differ by plan, as do other restrictions imposed by the state in which it is administered. For more information, visit www.savingforcollege.com, www.collegesavings.org or www.morningstar.com. Your financial adviser can help you navigate the complexity of each plan and identify the best option for your situation.
529 college savings plans provide a unique combination of benefits that are not available in other college savings options. If you begin early and contribute regularly, you will be in a better position to fund a large part of the rising costs of a college education with savings and the associated tax-free earnings.
Jennifer Nicasio is a certified financial planner and a senior investment adviser with HTG Investment Advisors, an independent fee-only advisory firm in New Canaan. For information, call 203-972-8262 or visit www.htginvestmentadvisors.com.