529 College Savings Plans

College savings plans, also known as 529 plans, are state-managed investment accounts, whose funds can be used for "qualified education expenses" such as tuition, fees, room and board, books, and supplies. Earnings and withdrawals are federal tax-free—some states will also waive state taxes or let parents deduct a portion of the contributions.

Principal Benefits of College Saving Plans:

• Open to anyone.  There are zero residency restrictions and no cap on income level (unlike Coverdell Education Savings Accounts, formerly Education IRAs).
• Easy to manage.  Set up an account and your money is managed for you. Many plans will automatically shift your assets from stocks to more conservative investments, such as bonds or money market funds, as your child gets closer to college.
• Low impact on financial aid.  Savings are treated as a parental asset when aid is determined, which means that only 5.6 percent or less of the account's value is factored into calculating the Expected Family Contribution (EFC) for each academic year.
• Can be used at most schools.  Funds are good at most accredited public or private colleges or universities, community colleges, graduate schools, in the U.S. Some plans also recognize accredited vocational and international colleges.
• The account holder controls the money.  The parent or grandparent controls the money for the life of the account, even after the beneficiary turns 18.
• Large contributions are possible.  Some plans have contribution limits as high as $250,000 per beneficiary.
• Gift tax exemptions.  Contribute up to $11,000 annually without triggering any gift tax. You also have the option to make a lump sum contribution between $11,000 and $55,000, which is treated as if it was made over a five-year period.

Downsides of College Saving Plans:

• Risk.  These plans are not guaranteed to make a profit—accounts can post losses in a tough stock market. Parents must be aware of the risks, and be prepared in case they come up short.
• Short track record.  Most programs have only been around a few years.
• Limited choices.  Account holders have a fairly limited range of investment choices, but new options (and new plans) are being introduced constantly.
• Less disclosure.  States are not required to share their performance with investors on a regular basis.
• Account manager fees.  These are higher than average, and can be as much as 1-2 percent of annual earnings.
• Some tax benefits could cease.  Federal tax exemptions on withdrawals sunset after Dec. 31, 2010 unless Congress acts to extend them.

Note: Each 529 plan has its own set of rules and restrictions, which are subject to change. Make sure to request the most recent plan details from plan administrators.

More Information on 529 Plans

Collegesavings.org is the information clearinghouse of current 529 plans for the College Savings Plans Network, an affiliate of the National Association of State Treasurers.

Savingforcollege.com is devoted to 529 plans and includes articles, FAQS, and ratings of each state plan. It was founded by accountant and 529 specialist Joseph Hurley.