Just a small proportion of parents of children heading to college are putting money aside in state 529 savings plans, though a new analysis finds that many of the plans have been making themselves more attractive by reducing fees.
In its annual rating of the plans, the investment research company Morningstar noted that the industry had been making significant fee cuts, so plans become less competitive if they don’t follow suit.
The company analyzed 62 plans, comprising the bulk of money held in 529 accounts, and rated 31 as the best based on factors like fees, choice of investments and strong professional oversight.
The accounts, which are authorized by Section 529 of the Internal Revenue Code, are offered through state-sponsored programs to help people invest for higher education. Money withdrawn from 529 plans is tax free as long as it is spent on tuition, fees and other eligible costs, like room and board, books and equipment.
Beginning this year, up to $10,000 a year from a 529 fund can be used to pay for private school from elementary school onward.
All states but Wyoming offer some type of 529 plan, according to the College Savings Plans Network, an information clearinghouse. As of midyear, the network reported, there were about 14 million 529 accounts with a total of about $329 billion in savings. The average balance was $24,000.
Saving for college has become more important as the cost of higher education has risen. Average tuition, fees, room and board at a private four-year college reached about $49,000 this school year, the College Board reported, while the in-state average at four-year public colleges is about $21,000.
Many families don’t use 529 accounts, perhaps because of the plethora of competing plans, said Steve Wendel, Morningstar’s head of behavioral science. He estimated that just 16 percent of parents of pre-college children were saving in a 529.
“People seem to be overwhelmed,” he said.
Morningstar’s research suggests that explaining the benefits clearly, with visual aids like charts and graphs, could encourage more people to use the plans, Mr. Wendel said.
It’s unfortunate that so few parents do, he said, because a main benefit of a 529 fund is that families can attain investment returns, rather than letting cash sit in a low-interest checking or savings account. Many states also offer a tax break to savers.
Four 529 plans — offered by Illinois, Virginia, Nevada and Utah — earned the top, or gold, ranking because of their “low costs, strong stewardship and exceptional investment options,” Morningstar said. All four received the highest ranking last year as well.
Twenty-seven plans rated either silver or bronze, suggesting they have desirable features but also some room for improvement.
Twenty-six plans earned “neutral” ratings, which means they are adequate and may still be good choices for some families if their state offers a tax break. Neutral plans generally don’t have major flaws but also don’t stand out in any way, said Leo Acheson, associate director of multiasset and alternative strategies at Morningstar.
Five plans — Arkansas’ GIFT College Investing Plan, the Florida 529 Savings Plan, Nebraska’s TD Ameritrade 529 College Savings, New Jersey’s Franklin Templeton 529 College Savings and North Dakota’s College SAVE — received negative ratings because they lack compelling features and have at least one flaw, like high fees, that make them poor choices. Four of the plans were downgraded from neutral last year.
Participants who invest in plans with negative ratings, Mr. Acheson said, should consider moving their money to a higher-rated plan.
Two plans received upgrades from last year’s ratings. The Oregon College Savings plan was bumped to bronze from neutral after hiring a new program manager, overhauling its investment lineup and tweaking the “glide path” — the shift of stock investments to bonds as college approaches — for its age-based portfolios. The transition, which previously occurred in steps, is now more gradual, reducing the risk that the change will happen at an inopportune time in the market, Mr. Acheson said.
Arizona’s Ivy InvestEd 529 plan moved to neutral from negative after lowering its fees and smoothing out its glide paths.
Morningstar’s ratings include plans that investors can open on their own through the state program and plans sold only through investment advisers, which may offer more investment options but often carry extra costs.
Here are some questions and answers about 529 college savings plans:
Do I have to invest in my own state’s 529 plan?
No. You can invest in any 529, but you may get an extra tax break if you invest in your state’s plan.
Do I get a tax deduction for the money I contribute to a 529 plan?
There is no federal tax deduction for 529 contributions, but you may receive a deduction on your state tax return, depending on where you live. Thirty-four states and the District of Columbia offer tax deductions or credits to participating residents. (Some states even give tax breaks for contributions to other states’ plans.)
Where can I find more information about 529 plans?
The website savingforcollege.com offers information about 529 plans, and includes its own plan ratings as well as a detailed analysis of plan fees.
You can also check out the College Savings Plans Network website.
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