Posted by: Kimberly Howard, CFP, CRPC | June 4, 2013

Use a 529 Plan for Your College Savings

college 2The cost of a college degree has risen sharply, and the student loan crisis is alarming. It is important to know what options you have to save money for your child’s education expenses. Data shows that the average tuition price tag rose 3 percent between 2008 and 2009 and 32 percent from 2000 to 2009. These numbers prove one point: the cost is only going up.

One option you have for college savings is a 529 plan. Once you invest money, your earnings grow tax-free (similar to a Roth IRA). Keep in mind however that you will be taxed if you withdrawal the funds too soon or for non-educational purposes. A 529 plan offers two types of specific accounts: prepaid or savings.

529 Prepaid Plan

The prepaid plan allows you to invest money towards tuition at a limited number of colleges and universities (270 participate right now). Essentially, the tuition at a particular school freezes and the price will not increase when the student enrolls in that school. One of the disadvantages of this account type is there is little flexibility. Students need to be fairly certain they want to attend a particular school for this account type to be the most advantageous choice. However, if they are fairly certain, the prepaid 529 plan helps keep their cost of college lower, even though it will definitely increase before they enroll. Something else to consider is that a prepaid plan only covers the cost of tuition and mandatory administrative fees.

529 Savings Plan

A savings plan is essentially an account meant for future use. The funds accrued in this type of account can be used for tuition, mandatory fees, room and board, books, and computers. As you can see, there are pros and cons of each plan. A savings plan allows more flexibility when spending funds, but a prepaid plan doesn’t provide limitless school choice options. It is a decision that just has to be made with your student’s best interest in mind.

Fees

There are other factors to consider when choosing which type of account you want, such as any fees that may apply. Certain fees could include an application cost, management, annual, or administrative fees. The more money you accumulate in your account, the possibility of higher fees increases with a savings account. A prepaid plan typically has fewer fees and does not charge investors for account management.

Plan Options

Nearly all states allow for tax deductions and credits for 529 plans. If your state doesn’t offer a tax deduction, you may want to consider investing in another state’s plan that offers options better suited for your needs. For a list of the best 529 plans, take a look at NerdWallet Investing’s comparison chart.

Contribution Limits

The maximum contribution per year is $14,000 per beneficiary, but if you are married, you can invest another $14,000 for a spouse, too, who is considered a separate, second beneficiary. The account, regardless of what type you choose, cannot exceed $360,000 but the investment may grow beyond that if the fund matures.

The price of college is not going down anytime soon, so it is best to save as much as possible before the first tuition bill arrives. A 529 plan is one option, and whether you choose a savings or prepaid plan, you will be glad you chose to save at all.

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