1) What Is A 529 Plan?
529 plan is an investment account dedicated for education savings. The reason you want to save for college via the 529 plan versus a simple savings account is because of the (a) growth opportunity and (b) great tax benefits.
Growth Opportunity – Most 529 plans allow you to choose from a variety of investment options such as stocks and bonds. This gives your money opportunity to grow.
♦ The average annual stock market return is widely reported to be 6 – 8%.
♦ Let’s say that we started our 529 when our child was born with just $3,000 and it grew at an average return of 7%.
♦ After 18 years it would have grown to $10,140! – a whopping 338% growth from the original amount!
♦ In comparison, if we had placed that money in a CD (Certificate of Deposit) with 1% interest rate, the amount would only have grown to $3,588
Tax Benefits – The 529 plan also shelters investment growth and withdrawals from taxes.
♦ Tax-deferred growth – If you had invested the money in a taxable brokerage account, you would be paying taxes on the growth. However, just like investing in a Roth IRA, you pay no taxes on growth of the investment.
♦ Tax-free withdrawals – If you withdraw the money and use it for qualified education related expenses such as tuition, room and board, and books, you pay no taxes on the withdrawals.
2) How Do I Open A 529 Plan?
Now that you are sold on the 529 plan you must be thinking – how and where do I open one? As you know I am a big fan of Vanguard (not in anyway affiliate with them, just a raving fan).
They provide solid index investments options at low cost. Their site is self explanatory and walks you through the process of opening a 529 plan step by step.
Few things to note:
Basic Information – You will need your social security number, birth date, and address of the beneficiary of the 529 account as well as your own.
$3,000 Minimum – There is a minimum initial investment requirement of $3,000.
Investment Option – If you aren’t too familiar with investment options, Vanguard offers “age-based options.” Depending on how old your child is and your risk tolerance, you can select one of the portfolio options from Conservative, Moderate to Aggressive. Vanguard automatically adjusts your portfolio profile as your child gets closer to college age.
I highly recommend selecting one of the age based options because it will automate the whole investing process! If you are interested in learning more about investments, I highly recommend reading A Simple Path to Wealth by JL Collins.
3. What Happens to the Plan If My Child Does Not Attend College?
If your child decides to not attend college, no worries! We have options.
Other Education – The money in 529 account can be used for other types of education besides a 4 year college, such as two-year associate degree program, trade school or a vocational school.
Change Beneficiary – If you are the 529 account owner, you have the right to change beneficiary of the plan. As long as the new beneficiary is a family member (sibling, cousin, uncle, aunt – or even to yourself!) the money can be used for qualified education expenses without incurring taxes or penalties.
Bite the Bullet – At worst, you can just pay the income taxes plus a 10% penalty on the earnings and use the money on something other than education expenses. I recommend thinking real hard before pursuing this option. Maybe you can finally go get that culinary degree you always wanted!
How are you thinking about paying for your child’s college? Do you think the 529 plan will meet your needs?