What To Watch For In Your 529 College Saving Accounts.
Posted on | September 5, 2009 |
529 college saving plans are tax deferred investment accounts that are a lot like a 401(k) plan except instead of saving for retirement, you’re saving for college. Just as with 401(k) plans, some 529’s carry a wide assortment of investment options to choose from and this can sometimes get complicated.
But for most people, a 529 saving account is pretty straightforward. Most experts recommend you select an age-based fund that gradually shifts from a more aggressive stock heavy portfolio to a more conservative bond or cash heavy portfolio as high school graduation nears. It’s also common advice to go with your in-state plan, as most states offer a tax deduction for the amount of money contributed to the plan.
But common sense, and conventional wisdom are not always absolute.
For example, the state tax deduction for contributions only makes sense if you live in a state that collects income tax. If you’re lucky enough to live in a state that has no income tax (like Florida or New Hampshire), then you’re not really benefiting from that part of the plan.
There’s more wrong with conventional advice when it comes to 529 plans.
Many 529 plans offer age-based options that are similar to target-date options found in many 401(k) plans. But age-based options carry the same risk as target-date funds that hi-lighted by the After Hours Investing blog post Beware Target-Date Funds! . Namely, age-based funds carry non-uniform risk.
SmrtMoney examined performance of 529 plans during the 2008 market crash, and they found some problems.
Some age-based plans targeting high school seniors lost 30% while others gained 4%. How can this be? Aren’t age-based funds supposed to gradually adjust assets over time specifically to avoid such risk?
Well, just like target-date funds, the fund managers of some 529 plans got greedy. Some plans had 50% or more of their assets in stocks! This is way too much risk for a high school senior who will need that money in a year or less. According to Cleveland based financial advisor Scott Snow, an age-based fund for high school seniors should have no more than 20% in stocks.
This should serve as a reminder to all who investing for college in a 529 plan: know where your money is. If your account holds age-based funds, check on the underlying holdings and make sure the risk is in line with the time till graduation.
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