529 College Savings Plans Demystified

August 19, 2007 By Matthew Paulson

A few years ago, Congress passed a means for parents to save additional money for their children to go to college on top of the educational savings account. 529 college savings accounts allow you to invest money for your child’s education, and all of the growth is tax free. In addition you can currently spend all of the money you earn from it tax free as well. The only downside is that if your child does not go to college, you’ll have to pay a 10% penalty fee and taxes on the money. If your child is bound for college, they can be a great way to put money away for their education.

529 savings plans can be quite confusing because Congress made it so that each plan has to be sponsored by a state. Some states have great 529 savings plans, and others you wouldn’t want to touch with a twenty foot pole. The good thing is that individuals can invest in plans from other states, so that they can choose between hundreds of options.

So which are the best 529 college savings plans? Financial counselor Clark Howard recommends three plans for you to check out. Utah’s Educational Savings Plan Trust topped his list. Iowa’s College Savings Plan and New York’s College Savings Plan came in second and third respectively.

You’ll have quite a few different investment options, but generally the age-based portfolios are the way to go. When your child is born, you can take on quite a bit of risk since it’s 18 years before they’re going to college. When they’re 17 or 18, you certainly don’t want their college money invested in anything that’s high-risk since the money will be needed fairly soon. Much like targeted retirement date mutual funds, these age-based funds will make your investments more conservative as your child gets closer going to college.

More often than not 529 plans are sold through intermediaries which sell these plans for a commission. These can be commission sales persons, financial planners, stock brokers, and insurance agents. You’ll end up paying about 5% in commissions and fees if you buy them this way. Fortunately you can buy them direct and not have to pay these enormous fees. Vanguard and TIAA-CREF run most of the low cost and high-return 529 college savings plans, so simply go to their website and find the one that makes the most sense for you.

Check and see if your state’s offerings have any tax-benefit which would make it more desirable over the top three suggested in this article, otherwise stick with a low cost plan that will maximize your savings.

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