As the parent of two young children, college planning is certainly on my mind, even at just 3-years and 6-months-old. While there are multiple options when saving for college, I’ve created 529 plans for my kids, which provide several benefits.
This post examines 529 plans and their benefits, followed by a description of how I’ve chosen to invest my 529 accounts.
A Quick Overview
A 529 account allows parents (or anyone else) to contribute funds earmarked for college expenses. Contributions aren’t deductible from federal income tax, but earnings and withdrawals are not subject to income tax when used for education expenses.
Individuals can contribute up to $15,000 per year for each beneficiary ($30,000 per year for a couple to each beneficiary) without having to file a gift tax return.
Parents (or whoever sets up and owns the account) maintain control of how the funds are invested and spent and can change the beneficiary to another family member if desired. These features provide significant flexibility.
You can use 529 plans to pay for k-12 education expenses in addition to college as of 2018, but this post specifically looks at their use in college planning.
While 529 plans are set up by the states, individuals can contribute to plans in any state. For example, a California resident can contribute to a California 529 plan or to a plan in a different state.
Some states offer state tax benefits for 529 contributions. For example, Kansas allows a state tax deduction of up to $3,000 per child for 529 contributions.
The chart below, produced by Dimensional Fund Advisors, has a good overview of state tax benefits.
States shaded blue: No state-level tax benefits for 529 accounts.
States shaded green: State-level tax benefits for residents who invest in any 529 plan.
States shaded gray: Have state-level tax benefits, but these may only be available when investing in that state’s 529 plan(s).
Because I live in Washington, there is no state tax benefit to choosing any one plan. This provided flexibility to choose the plan I liked best.
Choosing the Right 529 Plan
For residents of states shaded gray in the map above, it’s worth looking into that state’s 529 plan for new contributions – at least up to the maximum state tax benefit.
For everyone else, we like the my529 (formerly Utah Educational Savings Plan) found at my529.org.
Why We Like my529 / UESP
My529 accounts invest in Vanguard and Dimensional funds. At Merriman, we primarily use Vanguard and Dimensional funds in client accounts because they are highly diversified investments that we expect will produce superior long-term returns. The funds available in my529 accounts are like the funds we use in client accounts here.
Another consideration we make is a plan’s total asset-based expense ratio. According to savingforcollege.com, these can reach as high as 1.46% for some plans. The my529 plan’s total expenses range from 0.15% – 0.196% for their predetermined allocations, which are very low and highly competitive.
When selecting investments in the plan, investors can choose a pre-determined allocation, or to create their own custom investment allocations, as described below.
Any of the available age-based options (aggressive, moderate or conservative) are a reasonable way to invest the accounts. For my own children, I’ve set up a custom, age-based allocation that’s globally diversified and tilts toward small-cap and value-stocks, as shown here:
The allocation starts entirely in stocks when children are young, and automatically moves to a more conservative allocation as the student gets closer to starting college. It’s similar to the Age-Based Aggressive Global fund but with larger tilts toward small, value, and international stocks found in other Merriman portfolios.
Ease of Gifting
One thing I like most about the my529 accounts I set up is the ease of gifting. I created an account for each of my daughters when they were born, and then used the investment allocation above.
While I make small monthly contributions to each account, the bigger benefit comes from the contributions of other family members. Grandparents, relatives, and friends can easily contribute to the account (gift.my529.org).
It’s easy to make gifts and any new contributions are automatically invested in the chosen allocation. This has become a nice option for birthdays or other occasions.
Using 529 plans provide superior tax-advantaged benefits to save for college while allowing the parent to keep control of the funds. Utah’s my529 offers a good way to use these plans with diversified investments, low costs and a solid performance track-record.
I expect college costs will continue to rise. While it’s possible to pay for college from cash flow or taking out debt, I want to avoid doing that. Setting up these accounts for my girls makes the savings goal more bite-sized and has provided some peace of mind about being able to afford those costs one day.
529 plans are just one piece of the larger financial puzzle, but they are an important one for families with children who anticipate having college costs someday. If you or someone you know would like help exploring college savings options, please reach out to us.
Important Disclosure: The Investment Recommendations chart is shown for illustrative purposes only. Therefore, no current or prospective client should assume that the chart serves as the receipt of, or a substitute for, personalized advice from Merriman, or from any other investment professional. Clients should consult with an investment professional regarding their specific financial situation to determine whether any of the funds or models mentioned above are suitable for them.