Parents looking for a way to better prepare and save for their children's educational future may look into a 529 plan. The plans, which were introduced in 1996, are college savings accounts which are exempt from federal taxes.
As you decide which is best for your family's future, here are some pros and cons to consider regarding the 529 plan:
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Pro: The biggest advantage of a 529 plan is that the money in the investment can grow tax-free as long as the distributions are used to cover qualifying expenses. Those expenses include any tuition or fees at an institution of higher learning, books and computer equipment needed for study, room and board, as well as special services for students with disabilities.
Pro: There is no upper age limit. Unlike the Coverdell Savings Accounts, which are only available for use until the beneficiary is 30-years-old, there is no upper age limit on a 529 plan. The plans can also be passed along to the next generation. So, a beneficiary who does not use all of the funds in their own plan can later pass that money on to a spouse or their own child without penalty.
Pro: It can allow for a large designated gift. Grandparents and others who want to give a large, lump sum of money to their grandchildren can do so in a 529 plan. There are special rules that allow for up $70,000 at one time to be invested in a 529 plan without incurring a gift tax penalty.
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Con: It could hurt financial aid chances. Even accounts owned by grandparents or non-custodial parents can affect financial aid. In general, plans owned by grandparents or others do not affect financial aid until the money starts coming out of those plans to pay bills.
While FAFSA assets are generally limited to custodial parents and the student, when money comes out of 529 plans to start paying college tuition bills, it is then counted as income and could change a financial aid package.
Con: Limited choice. You don't really control the investments in a 529 plan. There is a program manager for the 529 plans that develop an investment strategy. There are basically two choices for 529 plans.
According to U.S. News, plan holders can choose an age-based option which automatically adjusts based on the age of the beneficiary and when they are expected to need the money for college expenses or a "static" choice that "maintains the same allocations over time."
The 529 plans that apply to pre-paid college tuition plans also limit choice because the beneficiary has to attend that institution in order to use the money.
Con: Changes could be coming down the pike. President Obama had proposed making changes to the tax-advantages available in the 529 plans.
However, according to The New York Times, President Obama "will drop his proposal to effectively end the popular college savings accounts known as 529s, but will keep an expanded tuition tax credit at the center of his college access plan."
Political wrangling could mean that future plans do not get the advantage of not having to pay taxes on the growth of the money.
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