If you are planning for a child’s education, we suggest that you save to an account that is used only for education. We recommend using a 529 Plan account versus an Education Savings Account.
Section 529 Plans can only be used for post-secondary education. You cannot direct the investments inside a 529 Plan, but you can choose the portfolio track you prefer. The plan manager chooses the mutual funds or fixed investments used. Earnings on nonqualified withdrawals (those not used for higher education expenses) will be taxed as ordinary income at your rate, and a federally mandated penalty equal to 10% of any investment gains will apply. Nonresident owners or beneficiaries may be subject to state income taxes. Taxes must be paid from funds other than the money removed for the higher education expenses. Money removed for qualified expenses must be spent on higher education expenses. For additional information on 529 Plans, read “Section 529 College Savings Plans” in Henssler University.
Begin by investigating the 529 Plan in your state of residence. Many states offer tax benefits to their residents for contributions and withdrawals from their plan. If your state’s plan offers tax benefits, you should consider that plan first. However, many states have income limits for receiving the tax deduction. When you choose a plan, your financial situation and goals should be taken into consideration. 529 Plans have become very competitive, therefore the majority of the plans available are good. Just because a plan in not listed in this article, does not mean it is not a good plan. The plans listed below are just a few plans that are flexible, offer good investments choices and low fees.
If you are a Georgia resident and want to open a 529 account, we recommend considering Georgia’s plan. Georgia offers a tax deduction for contributions up to $2,000. Georgia recently removed the income, dependency and itemization requirements from their plan.
Georgia: (http://www.path2college529.com/)
- Managed by TIAA-CREF;
- Fees charged range from 0.50% to 0.76%;
- This excludes assets held in guaranteed options, which charges no fees;
- Offers seven investment options, including two aged-based, two fixed and three static investment options;
- Allocations among portfolios can be changed every 12 months, or if the account beneficiary is changed;
- New contributions can be directed to different portfolios;
- Maximum contribution limit of $235,000—when an account reaches $235,000, the account does not accept additional contributions, and
- No annual contribution limit—if a contribution is over $65,000, gift taxes could become an issue.
The 529 Plan you choose should offer flexibility in rolling over assets to other state’s plans. If the 529 Plan in your state does not offer benefits, consider the following plans. The plans mentioned below have low fees as long as they are purchased through the state and not a broker. These plans also allow new contributions to be directed to different portfolios, the account owner can change the investments every 12 months, and accounts can be rolled over to another state’s 529 Plan every 12 months without penalty.
Georgia has a one-year holding period in their 529 Plan before qualified distributions can be made from the account. If you are not eligible for the Georgia tax deduction, we suggest that you establish a plan in another state.
Iowa: (http://www.collegesavingsiowa.com/)
- Managed by Vanguard;
- Underlying Vanguard funds have higher ratings by Morningstar than TIAA-CREF funds;
- Low 0.52% asset-based fees;
- Offers static and age-based options, and
- Maximum contribution limit of $320,000—when an account reaches $320,000, the account no longer accepts additional contributions.
Utah: (http://www.uesp.org/)
- State tax deduction for Utah residents;
- Uses Vanguard funds;
- Offers age-based portfolios and static options;
- Eight of these options include investments in funds offered by Vanguard.
- Ninth option is by the Utah Public Treasurers Investment Funds, and
- You can choose one option per account.
- Funds used are Large Cap funds with high Morningstar ratings;
- There are three parts to the Utah 529 fee structure: Vanguard Fund Operating Expenses,
- Administrative Asset Fee and the Administrative Maintenance Fee for UESP;
- Vanguard Operating Expense Ratios:
- Institutional Total Bond Market Index Fund: 0.05%;
- Institutional Index Fund Plus: 0.025%;
- Mid-Cap Index Fund Institutional Shares: 0.08%;
- Small-Cap Index Fund Institutional Shares: 0.08%;
- International Growth Admiral Shares: 0.31%; and
- International Value Fund: 0.46%.
- UESP Administrative Asset fee of 0.25%, annually:
- Fee is waived for Utah residents invested in option 1.
- UESP Administrative Maintenance fee is a maximum of $20, annually:
- Fee is waived for Utah residents.
- Vanguard Operating Expense Ratios:
- Allowed to change investment options once per calendar year;
- Maximum account contribution is $319,000—when account reaches $319,000 account no longer accepts contributions;
- Accepts a $65,000 ($130,000 for MFJ) contribution; however, additional contributions cannot be made for five years;
- Account cannot continue to be unused indefinitely. Benefit payout must begin at age 27, or 10 years after account was established if beneficiary was older than 18 when the account was established, and
- Withdrawals can be rolled to other family members.
Alaska: (http://www.uacollegesavings.com/)
- Managed by T. Rowe Price;
- The fee for static investments ranges from 0.49% to 0.75%. Annual maintenance fee of $25, which can be waived:
- When you invest regularly through the Automatic Asset Builder or by payroll deduction;
- For each of the beneficiary’s accounts when at least one account is invested in the ACT portfolio;
- If your total balance for a beneficiary is $25,000 or more, and
- If your combined account balance, regardless of beneficiaries, is $75,000 or more.
- Funds have outperformed the funds in the plans managed by TIAA-CREF;
- The funds in this plan are directed toward small cap and mid-cap funds;
- Investments can be changed every 12 months;
- New contributions can be directed to different portfolios;
- Plan does not charge a 10% penalty, but the federal government does charge the 10% penalty for nonqualified withdrawals;
- No age limits on the accounts;
- Maximum contribution limit is $320,000—when an account reaches a value of $320,000, the account no longer accepts contributions;
- Maximum annual contribution $13,000 ($26,000 for MFJ);
- Accepts a $65,000 ($130,000 for MFJ) contribution, but additional contributions cannot be made for five years, and
- Fees are higher than other plans listed.
This information is subject to change.
Custodial Accounts
If you are not concerned with retaining control of investments intended for your child’s college education, you can use a custodial account. With custodial accounts, you must be aware that when your child reaches the age of majority, the assets legally belong to the child. The child then can use the money anyway he or she sees fit. Unlike 529 Plans, you can control how the assets are invested in custodial accounts. For more information, read “Custodial Account—Uniform Gift/Transfer to Minors Act.”
Roth IRA
If you want to save for your child’s education, but are having a hard time funding your retirement accounts, we suggest that you use a Roth IRA account for your child’s education account. Roth contributions can be withdrawn from a Roth IRA Account at any time. For example, if you deposit $5,000 in 2009 and 2010 in your Roth account, you can withdraw $10,000 from this account in 2011, without tax or penalty, because this amount ($10,000) is the original contribution.
The contribution limits for Roth IRAs are as follows:
- 2010: $5,000 per year, with a $1,000 catch-up contribution for those older than 50, and/or
- The annual contribution limit will increase with a Cost of Living Adjustment.
For more information, read “Saving to the Roth IRA for Future College Expenses in the Parent’s Name.”
Basic Rules for Earnings:
Earnings can be withdrawn from a Roth account after five years without penalty. However, taxes will be due if the distribution is used for qualified higher education expenses.
Earnings distributions from a Roth IRA account must meet the following criteria to be tax-free and penalty free.
The distribution is made five years after the initial contribution and one of the following:
- Distributions are made after attaining age 59½;
- The account holder becomes disabled;
- For the purchase of the account holders first home, or
- The distribution is due to death.
When a distribution is made from a Roth IRA account, contributions are considered withdrawn first. For example, if you have an account worth $10,000 ($8,000 is contributed money, and $2,000 is earnings). If you withdraw $6,000 today, there is no tax consequence or penalty, as contributions are pulled from the account first.
Other Alternatives
If you are unable to pay for your child’s higher education, the following are alternatives: loans, grants, scholarships and other types of financial aid. For more information on loans, read “Sources of Education Loans” in Henssler University. If you are a Georgia resident, you may be eligible for the Georgia HOPE Scholarship. For more information, read “Georgia HOPE Grant & HOPE Scholarship.”
For more information regarding this topic, contact Henssler Financial at 770-429-9166 or experts@henssler.com.
This article is meant to provide valuable background information on particular investments, NOT a recommendation to buy. The investments referenced within this article may currently be traded by Henssler Financial. All material presented is compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. The contents are intended for general information purposes only. Information provided should not be the sole basis in making any decisions and is not intended to replace the advice of a qualified professional, such as a tax consultant, insurance adviser or attorney. Although this material is designed to provide accurate and authoritative information with respect to the subject matter, it may not apply in all situations. Readers are urged to consult with their adviser concerning specific situations and questions. This is not to be construed as an offer to buy or sell any financial instruments. It is not our intention to state, indicate or imply in any manner that current or past results are indicative of future profitability or expectations. As with all investments, there are associated inherent risks. Please obtain and review all financial material carefully before investing. Henssler is not licensed to offer or sell insurance products, and this overview is not to be construed as an offer to purchase any insurance products.
