A 529 college savings plan can be a vehicle that will drive a family down the road of success when it comes to planning for higher education expenses by offering a savings plan that is free from federal income tax. These qualified tuition plans provide a tax sheltered account in planning for hefty college expenses, while earning interest each month. However, with some new investment strategies available to families planning to send their loved ones to college, a 529 plan might not be the best answer. The following is a guide about what a 529 plan won't do for finances wen it comes to college planning and the alternatives available to you.
Earnings are Taxable
The earnings gained through interest bearing 529 plan accounts are taxable as normal income. Even though the amounts invested are considered non-taxable, the IRS will still consider the interest as normal income on your federal tax return.
Along with being taxed on the earned interest from a 529 plan, the IRS will also impose a 10% tax penalty on the account earnings. States who have state taxes might also impose a penalty on interest earned on money invested in a 529 plan.
No Individual Protection
Funds available to a college student in a 529 plan are not protected from creditors or third parties. Should a family have assets seized or other judgments levied against them, the 529 plan would be a considered a repayment vehicle, and could be used in court settlements.
Limited Investment Options
As with other types of investments available to consumers, a 529 plan limits your investment options to the scope of the plan. There are no options available to invest the money in other areas of the market.
Not every school in the US will accept money saved from a 529 plan, or allow you to lock in today's college rates. Many junior colleges, technical colleges and vocational schools are not eligible.
Financial savvy families might find better alternatives in higher yield accounts such as whole life insurance plans, by borrowing against the plan after their child has graduated college to pay off student loans and expenses.
While 529 plans and pre-paid tuition plans are still an investment vehicle that one could consider when saving for the high cost of four year institutions, their year over year yield in savings and interest is difficult to determine inasmuch as deciding the plan is worth it. Speak to your financial planner about alternatives to a 529 plan.