Corrections or additions?
These articles by Kathleen McGinn Spring were prepared for the May
23, 2001 edition of U.S. 1 Newspaper. All rights reserved.
Tax-Deferred College Savings
There probably isn’t a college course called Saving
for College 101, but perhaps there should be. It is a complicated
subject that raises many questions. Among them: Under what
circumstances
can junior blow the college fund on a Harley? Will Susie’s opportunity
to get financial aid be comprised by a fat college savings fund?
A college savings vehicle that remains in the control of its owner
— typically a parent or grandparent — and therefore is not
at the mercy of a youngster’s urge to splurge is the 529 plan. Whereas
money in a child’s name under the Uniform Gift to Minors, another
popular college savings plan, belongs to the child, who can use it
for anything he wants when he reaches age 18, parents don’t have to
worry about college cash going along with their progeny on a trip
to Tahiti with the 529.
With the 529, however, parents do have to worry about losing out on
financial aid. When money is drawn out of a 529 to cover college
costs,
the earnings portion is considered income for the student. And
financial
aid formulas typically reduce a student’s aid by 50 cents on every
dollar earned. Families earning $75,000 or less can typically qualify
for financial aid at a private college, and families earning $50,000
or less typically qualify at public colleges.
Douglas Roberts, a financial consultant with Gibraltar
Securities,
Tucker Anthony, in Florham Park, speaks on 529 plans on Wednesday,
May 30, at noon at a free information luncheon at the Sheraton Tara
Parsippany Hotel. Call 973-822-2500.
Roberts says his clients aren’t concerned about financial aid, but
rather are worried about covering their children’s college costs.
For a child born this year, it is projected that room and board at
a public college will run to something like $130,000 for four years,
and that the tab at a private college will be $320,000, or somewhat
more for the most elite schools.
Even so, Roberts admits that for families with relatively low income,
a 529 might not be a good idea. That is especially true where a child
is approaching college age. With a very young child, there is always
the chance that family income will increase substantially, or that
financial aid rules will change. But a family in the 15 percent
bracket
is taxed at the same rate as their child, and has greater investment
flexibility outside of a 529 plan.
Still, for many families, even those where parents are in a low tax
bracket, the 529 is an attractive proposition, and may become much
more so. Money invested in 529 plans now grows free of federal tax
— and free of state tax in most states, including New Jersey,
but is taxed when it is withdrawn. Under legislation introduced in
Congress last month as part of the Affordable Education Act, money
not only would grow tax free in a 529, but would be free of taxes
when it is withdrawn and used for college costs.
Here is how a 529 plan works, and why it may, or may not, be a good
way to build up a college fund.
Plans vary by state. Named for an IRS tax code, 529 plansare administered by states. Some 44 states have 529 plans, some openthem only to their own residents, and others welcome any investors,but may not give all of the plan’s benefits — scholarships, forexample — to out-of-state residents. Rules are different for eachplan. An excellent source of information on 529 plans is a website,SavingForCollege.com, which contains charts that analyze and compareall of the different state plans.New Jersey’s plan includes a scholarship. New Jerseyresidentscan invest in plans offered by other states, or can choose their ownplan, which is called New Jersey Better Educational Savings Trust.The maximum contribution to this fund is $150,000. It can be openedwith $25, and requires a $300 annual contribution until the fundreaches$1,200. There is a $5 annual maintenance fee, and a maximum .5 percentinvestment management fee charged by the Division of Investment. Anattractive feature of the New Jersey plan is that it awardsscholarshipsof between $500 and $1,500 to all beneficiaries whose funds havereceivedcontributions for at least four years, and who enroll in any NewJerseycollege.Reasons to go outside New Jersey. Maximum allowablecontributionsdiffer from plan to plan. CollegeBoundfund, the fund Roberts’ firmpromotes, for example, allows a maximum contribution of $246,000.Also, investors have just one choice of investment in the New Jerseyplan. All money is invested under an age-based strategy using fiveage bands. Beneficiaries under 2 years old have 60 to 80 percent oftheir money in stocks, while those over 14 have zero to 20 percentin stocks, and the rest in fixed income investments.Roberts, whose product offers five choices of investment strategies,says the age-based strategy is the most popular now, especially sincethe recent stock market unrest jolted investors who had put theirfaith in aggressive mutual funds. Still, some investors may prefera plan that offers more choices.One more consideration with the New Jersey plan is that the fundpassesto the beneficiary, or his guardian, should the owner die, whereassome other funds would allow another person, perhaps the decedent’sspouse, to inherit.The 529 plans are a lock. When a parent or grandparent(or cousin or uncle or godmother) opens a 529 plan, he chooses howthe money will be invested. And that is that. No changes are allowed.Given changes in investment mentality that typically occur in thetwo decades between the time a child is born and is half-way throughcollege, that could be a problem.Beneficiaries can change. While investors funding achild’scollege costs through a 529 plan are locked into their initialinvestmentchoice, they can name a new plan beneficiary. If Junior decides togo straight from high school to Broadway or to launch his own businessand skip college, money in his fund can be transferred to his sisterSusie.However, if the money, for whatever reason, is not used for college,there is a 10 percent penalty upon withdrawal in addition to taxes.Lump sum investments are allowed. Investors can put$50,000apiece in each beneficiary’s fund at one time. That means that a setof grandparents could put $100,000 into each of their grandchildren’sfunds in one fell swoop, removing an enormous amount of money fromtheir taxable estate. Anyone making this lump sum investment can notput any more money into the 529 funds for five years. Otherwise, eachinvestor can put up to $10,000 a year in each fund. Many people canopen funds for a single beneficiary, but the total amount allowedin all of the accounts is capped.The 529 plans cover more than tuition. Money investedin 529 plans can be used for tuition at any college, trade school,or graduate school in any state. It can also be used for room andboard, fees, books, and supplies.It is an understatement to say that 529 plans are complicated.Potential investors need to consider everything from possible changesin federal estate tax laws to the rate of inflation to the possibilitythat the twins will be accepted at Harvard, and while there willdecideto become neurosurgeons. But however much uncertainty surrounds thewisdom of starting a 529 plan, as opposed to investing in anothercollege savings vehicle, one thing is sure: The cost of college, nowat $30,000 a year at some schools, is only going in one direction.Previous StoryNext StoryCorrections or additions?This page is published by PrincetonInfo.com— the web site for U.S. 1 Newspaper in Princeton, New Jersey.
