Types of 529 Plans
There are two types of 529 college savings plans and only one can be used to pay for room and board expenses.
There are two types of 529 plans; prepaid and savings, and prepaid plans only cover tuition and some mandatory fees.
Savings plans can be used for tuition and fees as well as other expenses such as room and board. Both plans are funded with after-tax dollars and some states offer a limited state tax deduction for contributing to your 529.
While it is very tempting to pay for something today that will cost more tomorrow, keep in mind that some state prepaid plans have had difficulty achieving the investment performance required to keep up with the rising cost of college. In fact, according to data from savingforcollege.com, only 10 of the 20 or so prepaid plans available are still open to new enrollment. If you think a prepaid plan is right for you:
- Make sure to research the history of the plan and exactly what the plan guarantees.
- In addition, be clear of your obligations as these plans have residency requirements, are somewhat restrictive in terms of when the plans can be established, and have rules regarding the amount and timing of contributions.
- Contrary to popular belief, prepaid 529 funds can be used for out-of-state and private tuition. If it is likely your child will attend an out-of-state or private university, be sure to understand how the prepaid plan calculates the refund amount – it is not the same for every plan.
- Remember that other expenses such as room and board will need to covered. A separate 529 savings plan is a good option to supplement the prepaid plan.
Similarly, with savings plans, make sure to clearly research the investment options, the fees, whether or not your resident state encourages contributions with a state tax deduction, and the responsiveness of the plan support team.
Also, if you are working an investment advisor, consider whether or not his or her involvement is needed and if it warrants paying additional fees. Given that 529 savings plans have limited investments choices, do not allow investment changes more than twice a year, offer age-based options that automatically become more conservative as the child ages (which is a good strategy for many), and work directly with families to handle distributions for expenses, paying higher plans fees to compensate an advisor may not provide much additional benefit.
Once you’ve determined that you and your family are ready to start saving for college, do your homework. Choose a plan (or plans) that fits your needs and then don’t be shy about telling family members and close friends that you encourage/welcome contributions. After all, the benefits of a 529 contribution will last long beyond your child’s interest in yet another stuffed animal or video game!