What is a 529 Plan?

The 529 College Savings Plans were created by Congress in 1996 and are actually called Qualified Tuition Programs. Most people now refer to them as 529 plans after Section 529 of the IRS code, where they are defined. These programs are individually created and run by the states (or qualified educational institutions) and provide a tax-advantaged vehicle to save for a college education.

Each 529 account must have a beneficiary. Usually this will be a child or grandchild, but you can open a 529 for anyone, including yourself. While there is no Federal tax deduction allowed for contributions, the earnings grow federal and state tax deferred and as long as the funds are used for qualified educational expenses, they will not be subject to Federal or state income taxes. This makes the 529 accounts especially useful when started for young children who have many years to go before reaching college age.

You can open a 529 account in most states, no matter where you live. However, some places offer a yearly state tax deduction to taxpayers, so you should check first to see if your home state provides you additional tax benefits. Often, these deductions more than offset advantages offered by other programs.

Prepaid tuition plans and savings plans are the two basic types of 529 plans available. States may offer both, while other qualified institutions can only offer the prepaid tuition plans. With the cost of college tuitions rising so quickly over the last twenty years or so, states have not been eager to set up the prepaid plans, which guarantee your tuition no matter how high college costs have risen. Right now there are about a dozen states still offering a prepaid tuition plan, but some, like Tennessee, have seen that sky-rocketing education costs have stopped these from being a viable option.

529 College Savings Plans, on the other hand, are offered by almost every state. Most offer multiple investment options to satisfy the needs of almost everyone. One popular choice are the age-based portfolios, which automatically move the investments from aggressive while the beneficiary is young to more conservative as he/she approaches college age. Once invested in an age-based investment, the account owner doesn't have to do anything unless a change is desired.

Besides the age-based options, most states offer a variety of funds from which the account owner may choose. These range from the very conservative to the very aggressive and funds invested will not move as the beneficiary grows older. So, if you want to get more conservative  as the time to college shortens, you will need to make the moves manually. Since the state 529 plans are administered by various managers, the funds offered will vary from state to state. Read the disclosures carefully to see which funds match up with your investment goals.

One thing to remember is that for the most part, money invested into a 529 plan is not guaranteed and your balance can move up or down depending on the movements of the stock and bond markets. Check with a financial advisor to see if a 529 college savings plan is best for you.