WHO ARE THE PLAYERS?
To gain a good understanding of 529 college savings plans, first learn how they work and who is involved.
THE STATE SPONSOR
Authorized by Section 529 of the Internal Revenue Code, 529 college savings plans are most often sponsored by individual states or state agencies. Nearly every state in the U.S. sponsors at least one 529 college savings plan and many states offer more than one plan.
When you open a 529 college savings plan directly or through a financial advisor, you are gaining access to the plan through its state sponsor.
There are no residency requirements associated with 529 college savings plans. You can open a plan sponsored by any state, regardless of what state you live in. For instance, if you’re a new father living in Oregon, you can open a 529 college savings plan sponsored by Illinois.
Some important aspects of 529 college savings plans include:
- Some states offer additional tax benefits. In addition to federal tax benefits that are common to all 529 college savings plans, some states offer their residents state tax deductions or income tax exemption for enrolling in its plan. Others may have a matching program or scholarship associated with their plan.
- The state does not usually administer the plan. The day-to-day management of your 529 account or the investments in the plan are typically performed by the plan’s program manager who is chosen by the plan sponsor. However, the individual state or state agency does oversee and have fiduciary responsibility and decision making for the plan.
THE PROGRAM MANAGER
A program manager (sometimes called the plan manager) is usually a financial organization chosen by the state to handle the day-to-day management of the plan. The program manager generally oversees the investments offered in the plan, administers the plan, keeps plan records, and handles the marketing for the plan.
INVESTMENT MANAGER
A plan’s investment manager is typically a financial organization that is chosen by the state to provide and manage the investments that are available in the plan.
Investment managers generally offer a diversified mix of investments to choose from. Some plans have more than one investment manager, and very often the program manager of the plan also plays the role of the investment manager.
When reviewing your investment options, it is important to understand their investment objectives, look at historical performance records, and consider fees.
THE PLAN ACCOUNT OWNER
The owner of a 529 college savings plan is the person or persons (in the case of married couple) setting up the account. As part of opening a plan account, you are asked to name a beneficiary of your choice; whether it’s your own child, grandson, godson, brother, or even a family friend. What you need to know is:
- The account owner retains control. The owner of the plan has complete control over who receives the money, when they receive it, and how the money will be spent. If the money is spent on non-qualified expenses, penalties and taxes will apply.
- The account owner and plan beneficiary can be the same person. When opening a plan, the account owners may name themselves as the intended student who will benefit from the money saved. 529 college savings plans impose no age restrictions on plan beneficiaries.
- The account owner chooses the investment portfolio. It is the account owner who controls which investments are selected based on the choices available in the plan.
When opening a 529 college savings plan, it is important to look into how plan ownership may affect the child’s financial aid eligibility as the assets in a 529 plan are often taken into account by colleges and universities.
THE PLAN BENEFICIARY
The beneficiary of a plan is the future college student who is named as the person who may receive the money invested in the account. Any potential student can be named as a plan beneficiary, regardless of their age or relationship to the plan owner.
- The plan beneficiary does not control the account. While some ways of investing for college, such as custodial accounts, eventually give the intended student control over the money, in a 529 college savings plan account, the money remains controlled by the person who opens (or “owns”) the account. The exception to the rule is for 529 custodial accounts in which you must turn over control to the beneficiary at the age established under state law, generally when they turn18 or 21.
- The plan beneficiary can be changed. If the intended beneficiary of the plan does not end up needing the money saved in the plan or does not go to college, you can choose to name a new beneficiary. This change is usually easiest to do if the new beneficiary is a blood relative or “family member” of the initial beneficiary. If the new beneficiary is not a member of the family of the old beneficiary, the change in beneficiary is treated as a non-qualified distribution to the account owner, in which case taxes and penalties apply.
OPENING A 529 COLLEGE SAVINGS PLAN
When it comes to opening a 529 plan account, you can generally do so directly or through a financial advisor. Here are some things to consider before you decide which way to go:
- Direct-sold plans. Going direct-sold means you open an account directly through the state or the program manager, without the input of a financial advisor. While this may reduce the fees associated with the plan, you miss out on having access to an expert who could help you make investment decisions, and manage the plan on your behalf. If you comfortable with choosing and managing investments on your own, this may be the right way for you.
- Advisor-sold plans. This type of 529 college savings plan, while still sponsored by a state or state agency, is sold through a financial advisor or a broker/dealer. These professionals’ help you set up the account, recommend how to invest your money based on your specific goals and financial situation, and monitor the account and its investments on your behalf. Advisor-sold plans tend to have sales charges associated with them to compensate them for the professional advice and the service you receive.
CHOOSING INVESTMENTS IN A 529 COLLEGE SAVINGS PLAN
As part of opening an account, you will need to choose how to invest the money that is put into the account (your contributions).
529 college savings plans usually offer a range of investment portfolios that are designed to help meet your needs, time frame, and tolerance for risk. These investment portfolios are generally made up of mutual funds and similar investments and are offered by the plan’s investment manager. Usually, you can choose from several types of portfolios:
- Age-based portfolios. Useful for people who are not experienced investors; this option lets you put your savings in a portfolio based on the age of the beneficiary that automatically adjusts over time. Investments offered within these age-based portfolios are more aggressive when your beneficiary is younger, and becoming increasingly conservative as the beneficiary grows older.
- Custom portfolios. Most plans offer the option to choose from a menu of investment portfolios. This gives you the opportunity to make more active choices about the types of portfolios you would like to invest your money in based on your needs and goals. However, you are responsible for selecting new investments, should your needs or goals change.
- You can change your investment options. Most plans give you the opportunity to change how you have invested your money, should your needs and goals change. However, certain rules apply. You can change how new contributions into the account are invested at any time, but if you are looking to change the allocation of already invested money, you can only do so once per year (twice in 2009).
When you choose investments for your plan account, it is extremely important to review how the portfolios have performed over time and, in the case of age-based portfolios, the individual mutual funds and investments that make up their portfolio. Of course, past performance is no guarantee of future results.
MANAGING A 529 PLAN ACCOUNT
You’ll find that managing a 529 account is generally easy to do and requires little maintenance. The program manager handles the day-to-day management of your account, informs you of any changes to the plan, and updates you about the performance of your investments.
- Tracking your progress. Most plans give you access to your account online to help you monitor your progress. This makes it easier for you to review the performance of your investments and make changes when required.
- Making changes. Changes such as updating account details, modifying your investment portfolios, or making contributions can primarily be done online or by phone. Some plans may require you to complete and mail a form, depending on the kind of change that needs to be made. If you have an advisor-sold plan, you can work with your financial advisor to make appropriate changes.
- Simple tax reporting. At the end of the year, you receive a Form 1099 from the state if a withdrawal is taken.
- Taking a withdrawal from your account. You generally can request a withdrawal on your plan’s website, or you can complete and mail a form. Payments can be made directly to the educational institution, account owner or beneficiary. Qualified withdrawals are not subject to taxes; however non-qualified withdrawals are subject to a penalty fee of 10% and taxes.
Investments in 529 college savings plans are neither FDIC insured nor guaranteed and may lose value. Please note the plan's disclosure document includes details such as investment objectives, risks, charges and expenses, and other information that you should read and consider carefully before investing.You can obtain a copy of the plan document from each 529 plan sponsor.