Pay For College

A 529 is a savings plan designed to give tax advantages to encourage saving for future higher education expenses. Likewise, A Coverdell Education Savings Account (or Coverdell ESA), is an investment account, also with tax advantages and designed to promote savings to cover future college costs.

Key Features of 529 Plans
Contributions in most 529 plans grow entirely tax-free, meaning there are no capital gains taxes paid on them. About half of the states currently offer tax deductions on contributions into their 529 plans.
Anyone, regardless of income level, can contribute to the plan, whether the 529 plan is for their own kids or that of friends or family.

There are two kinds of plans: prepaid and savings. 529 prepaid plans are contracts that you buy to lock in today’s tuition rate at public and some private colleges within a particular state. There are restrictions on using funds in 529 prepaid plans for out-of-state colleges and the impact on financial aid is worse than if you invest in 529 savings plans. 529 savings plans are made up of mutual funds that grow tax-free and can be used for any qualified higher education expenses, meaning tuition, room and board, and other miscellaneous expenses associated with college.

You can invest as little as $25 to open a 529 plan and invest over $300,000 per beneficiary, but not all at once. There are currently over 75 529 plans and over 700 different investment options to choose from, with many well-known fund managers, such as Fidelity and Merrill Lynch.

529 plan costs range from 0 - 2.5% of your assets per year, plus front and/or back-end sales fees if you buy plans through brokers. So if you have $100,000 invested and the expense ratio is 1.5%, you pay $1,500 in that year - standard practice in the mutual fund industry. Selecting plans with lower expense ratios is generally a smart strategy, although how a plan performs also impacts whether that $100,000 grows rapidly or not. The states that govern the plans as well as the 529 plan fund managers receive this compensation for administering the plan and managing your money.

Rebate and tuition discount programs like Upromise, Babymint and Sage Scholars offer parents “kick-backs” of 1-10% on purchases made with affiliated retailers. Such rebates may be invested in specific 529 plans.

Key Features of Coverdell Education Savings Accounts
A Coverdell ESA (formerly called an Education IRA) is the most attractive way to save for K-12 or higher education expenses, including UGMA/UTMAs and mutual funds. However, there are income requirements that preclude some upper income families from participating.

Coverdell ESAs, in addition to tuition, covers transportation costs and uniform expenses. Additionally, Coverdell funds may be used for items such as computers and academic tutoring for children in grades K-12 at both public and private schools, in addition to tuition, fees, books, supplies, room and board for college. Another benefit of Coverdell is the added discretion that the account holder has over the investment direction of the funds in the account, which can be more freely allocated among stocks, bonds and mutual funds.

Coverdells have certain provisions that prevent some from participating. Among them is the fact that the $2,000 maximum contribution applies to both the account holder and the beneficiary. In practice, the beneficiary can only have a total of $2,000 contributed to his or her account in any given year, regardless of the number of contributors to that account. In addition, the account holder can only make a maximum contribution of $2,000 per beneficiary.

Excerpted from articles written by Jim Boyle, President of College Parents of America