4 Mistakes to Avoid When Choosing a 529 Plan

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4 Mistakes to Avoid When Choosing a 529 PlanFifteen years after their inception, 529 plans remain popular as an effective way for families to save for college expenses. There are many different plans to choose from, each with various features and advantages. However, just like any investment plan, you should evaluate your options carefully.

When deciding which plan is right for you, there are four common mistakes to avoid:

Automatically Enrolling in Your Own State’s Plan

There is a wide range in the quality and costs of 529 plans. There is no reason to automatically open a 529 plan with your state’s name on it unless you will truly reap a reward by doing so.  The most common reward for investing in one’s own state 529 plan is a decrease in your resident state taxes.  Some states, such as New York and Indiana, provide substantial tax benefits if you invest in their plan.

Another good reason for low- and middle-income families to consider their own state’s 529 plan is if it provides a match on contributions or other special benefits.  For example, New Jersey has a unique benefit for state residents, regardless of income level—a one-time tax-free scholarship of up to $1,500 to a beneficiary who goes to a New Jersey college.

Although your state plan may offer state tax savings and other advantages, it may also have high fees that may actually neutralize the benefits. If this is the case, then contribute the minimum you need to in your state plan to get the benefits and contribute the balance to a low-cost 529 plan.

Failing to Properly Evaluate Costs

One type of fee that some 529 plans charge that you should not have to pay is the account maintenance fee. This is typically levied for accounts with low balances or for participants who do not live in the state. There are plenty of good 529 plans available that do not charge this fee.

Two other types of fees include those for the management of the 529 plan and for the mutual funds in which the 529 plan invests.  Some plans list these separately and others bundle them.  Make sure you focus on and clearly understand what your total fees will be.  Some of the lowest-cost 529 plans, charging between 0.25% and 0.35%, are offered by Iowa, Michigan and New York.

If your child is close to or already attending college and you want to invest very conservatively, then you can do so for free in numerous 529 plans, including those administered by Connecticut and Michigan.

Disregarding Potential Gift Tax Consequences

Also important to consider is that any amounts contributed to a designated beneficiary’s 529 account are treated as a gift under federal law and could be subject to additional taxes. Keep in mind that contributions of up to $13,000 per year ($26,000 for married couples) can be made for each designated beneficiary without incurring the gift tax. in accordance with the Internal Revenue Service annual exclusion.

Furthermore, 529 plans have the unique feature of allowing you to contribute five years of gifts at once.  Therefore, you can contribute $65,000 in one year for each beneficiary and $130,000 if you are married.  However, any amount that you gift to the same beneficiary over the next five years may be subject to the gift tax.

Ignoring Rewards Programs

If your child is young, rewards programs can add up to a nice bonus.  Fidelity has a credit card that contributes 2% of all your purchases to one of their 529 plans.  Upromise is another rewards program that contributes a percentage of qualified purchases to a number of 529 plans, including those from Iowa and New York.  If you average $2,000 in monthly expenses on your credit card, that could translate to an extra $10,000 in the 529 plan by your child’s junior year in college.

Of course, the biggest mistake you can make is not choosing a 529 plan at all.  A great resource for researching 529 plans is www.savingforcollege.com.  And don’t forget to consult your trusted financial professional who can clarify the details and help you make the right decisions.

Marina Goodman, CFP®, is an Investment Strategist at Brinton Eaton (www.brintoneaton.com), a fee-only wealth management firm in Madison, N.J. Contact her at goodman@brintoneaton.com.

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