How a 529 Plan Can Help You Save for Your College Education

All parents dream of providing their children with quality education.

But with the rising cost of tuition and other school fees, funding college education in the 21st century becomes a serious dilemma for most average American families.

In fact, over half of millennials surveyed by Wells Fargo reported that they paid their way through college with student loans.

One of the few things parents can do to alleviate the stress on financing their kids' college education—aside from availing of student loans — is to save money strategically early on.

They may put money in a savings account while their children are still young and build their savings over the years.

This plan may work, but it all depends on how much money you and your partner have to set aside each year.

A more effective means of saving for college is to utilize the available college savings plans such as a 529 Plan. Espoused by the US government, 529 Plans can help parents save more effectively for their children's higher education.

What is A 529 Plan?

The term 529 is derived from the Internal Revenue Code 26 U.S.C. § 529.  These 529 Plans are basically investments in the form of college savings accounts allotted for schooling expenses. Funds deposited in the account may be withdrawn at any time but if used for purposes other than school-related expenses, penalty fees will apply.

There are two kinds of 529 plans: prepaid plans and savings plans. Depending on your priorities, one may suit your financial situation better than the other. It is thus imperative to understand how each plan works. Below are the advantages and disadvantages of each type of 529 plans.

Prepaid Plans

As its name suggests, a 529 prepaid plan lets you buy tuition credits for a college or university at today's rates for future use. These plans are managed by higher education institutions within the applicant's state.

With this plan, parents need not worry about tuition increases that are to come, but they must be very sure of their choice of a school for their children. Compared to the savings plan, a prepaid plan's coverage is quite limited. The plan covers tuition fees and other required administrative costs only – it excludes on-campus expenditures such as housing, books, and other needed supplies. Eleven states provide prepaid tuition plans today, with a total of 270 colleges and universities participating in the program.

Savings Plans

The 529 savings plan on the other hand, covers tuition, administrative fees, books, board and lodging, computers, and all expenses a student may need upon heading to college. Unlike prepaid plans, savings plans do not define location applicability. If you want to send your child to a school on another state, the savings plan offers the same perks. However, it does not offer the freeze on tuition prices so parents will still need to deal with the climbing cost of sending their kids to college. But at least, they are able to prepare in advance for all the expected costs and decide early on which investment options will best fit their financial situation.

Important Notes

Whether availing yourself of a savings or prepaid plan, certain fees will apply. This may include application fees, administrative fees and management costs. Note that a prepaid plan has lesser fees because investors do not get charged for account management expenses.

Tax deductions and credits may also be applied depending on the state where the applicant resides. There are 25 states that charge additional fees.

Also, there are limits to how much one can contribute. According to The Huffington Post, each person may only pay $14,000 per beneficiary whether it is a prepaid or savings plan. An additional maximum of $14,000 may also be invested if the applicant has a partner.

With this arrangement, parents may find that funding college education only looks daunting when they fail to strategize and plan from the beginning. Saving for college as early as possible may render student loans unnecessary, and thus prevent their children from needing to shoulder student debts in the future.

Funding college education, after all, need not be stressful. By utilizing 529 plans, parents are helping prepare their children for a brighter and more promising educational experience.

Photo Credit: Andrea Travillian