529s and Prepaid Education Plans- For Some States It Could Be Back to the Books
Lee Rosenberg, CFP | June 1st, 2009In light of the recent headlines in Virginia and Alabama about their section 529 prepaid education plans not being able to give investors a guaranteed return to cover tuition costs, many questions about their viability as an ongoing program are going unanswered. Sadly, it does not appear that any assurances are forthcoming from even from the highest levels of state government. This is due to the fact that the states have suffered the same fate as individual investors when the market dropped. They simply did not earn what they projected. In fact, their portfolios suffered heavy losses and they are trying to determine the extent of the fallout.
This is an enormous disappointment for parents who were astute enough to plan ahead for their childrens’ college educations by locking in the cost of future tuition and fees. It has also been a huge disappointment for financial advisers who believed that these college plans were extremely attractive because of this we were sure: there is death, taxes, and increases in tuition. In fact, over the past several years, college costs have been double the inflation rate. Having a way to cap these costs by investing upfront made perfect sense.
Another trouble spot is the way that these plans have been grouped under one big tent. In other words, the names 529 and prepaid plans have been used interchangeably, but they are not necessarily the same at all. For example, in Virginia, there is the prepaid education program, an education savings trust and College America. Only the prepaid program locks in the tuition rate. The other programs allow the money to grow tax deferred and is tax-free when withdrawn if used to pay for higher education, but there is no set amount that is due the investor, nor is there a cap on tuition. Whatever the going rate, that’s what the parent pays.
The other major difference is that a 529 plan is a contributory plan that is self directed, meaning that the investor can choose from a menu of options, including a more conservative strategy than a plan whose investment decisions are not under their control. A prepaid plan is the opposite. You pay $10,000 when a child is born, for example, and the state guarantees that they will invest that money and pay that child’s in-state college tuition, regardless of the current price. There seems to be much uncertainty about the type of plan in which people invested, adding to the confusion.
There is something else that is like the elephant in the room. Because of the current economic climate, high unemployment and jitters about the benefits of these college tuition programs, there has been a decrease in new deposits. This means that the states might not have the necessary funds to release to parents who want to withdraw their money to pay tuition. Of course, Social Security has always operated the same way. The proceeds are paid out to those who are eligible or in need right now. What will be left for future generations is uncertain.
In light of all of this, we are recommending that parents and grandparents look for alternative means of funding college accounts until their state governments can clarify and confirm how their tuition plans are going to work. If money has already been invested and the child is only a few years out from needing that money or needing it right now, check with your state administrators and financial adviser to find out the status of your account. Hopefully the money will be there as planned. If not, it’s back to the books on exploring other options.
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Tags: 403b plan, 403b update, 529, 529 accounts, 529 college savings account, college tuition, cover tuition costs, education savings trust, lee rosenberg
About the Author: Lee Rosenberg is the Co-founder of ARS Financial Services, Inc. As a Certified Financial Planner with more than 34 years of solid financial expertise. Lee is a registered representative of Cadaret, Grant & Co., Inc. He was also named one of the top 25 Independent Financial Advisers in the US by Rep magazine.
