The following content originally appeared in an article by Andrea Williams on U.S. News & World Report on July 1, 2015.
4 Potential Drawbacks of 529 Plans and How to Minimize Them
The tax-advantaged college savings plans can come with high fees, but there are ways to find cheaper options.
When it comes to saving for their children's college education, many parents are attracted to 529 plans because of the built-in advantages that make socking away enough cash for college easier.
Named for the section of the Internal Revenue Code that established these plans in 1996, 529s offer parents the ability to contribute funds to state-operated investment plans that allow those funds to grow tax-deferred. Then, once a student is ready to pay for college, qualified withdrawals are tax-free. Additionally, some states offer tax breaks on the money contributed to 529s during the year.
Despite those benefits, there are some possible drawbacks to using 529 plans to save for college. Early awareness of these four potential problems can give parents the opportunity to minimize or prevent them altogether.
1. High fees: State-sponsored 529 plans often come with higher fees than other savings and investment vehicles, says certified financial planner Lauren Klein of Newport Beach, California's Klein Financial Advisors. And because 529s typically house relatively conservative investments, high fees can all but wipe out an account's growth.
Broker fees are one source of these additional costs, and Klein says that they are at least 1 percent of the total asset, if not more. That may not sound like a lot, but it can add up over the long term.
"It's very easy for parents to purchase a plan independently – which makes paying that 1 percent or more in broker fees an option that should certainly be avoided," she says.
For parents interested in purchasing a plan without the assistance of a broker, Klein recommends savingforcollege.com as a great way to compare plans side by side. On the site, all plans are listed as "direct sold" or "broker sold." The website also provides details on the overall costs associated with 529s, giving parents the knowledge they need to choose plans with low fees.
Klein says she likes Nevada's Vanguard 529 Plan because it is one of the more affordable plans available. "What makes this plan, in particular, a great value is that not only are the funds inside the plan selected for their low cost, but Vanguard's investment costs are lower than others as well," she says.
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