Most people are using advisors to invest in 529 plans.

Financial advisors are now playing a central role in the way state-sponsored 529 college savings plans are marketed.

In fact, advisors are responsible for at least 70% of all new accounts, according to various estimates. When states initially introduced plans, many managed and sold them directly to the public. Now more states are sponsoring additional plans and partnering with firms to handle management and distribution. Although many plans still allow individuals to invest directly, many can also be opened through brokers-and some only can be opened through brokers.

Why the change? Beverly Moore, managing director of retail markets for New York Life Investment Management (NYLIM), says more plans and distribution channels can mean more revenue for states. But first and foremost, states need to be mindful of providing proper service, and financial intermediaries can help with that, she says.

In fact, 529 college savings plans have great advantages, but many people still are unaware of them. Add to that there are now so many plans-all with different rules-that they aren't easy to compare. "They are a fairly complex vehicle, which lends itself well to advisor distribution," comments Whitney Dow, director of education savings research at Financial Research Corp. (FRC) in Boston.

"Some states have enlisted direct marketing firms and have concluded they need to have a program distributed by financial advisors as well. People need guidance and assistance to help them integrate 529 plans. Some people will buy direct, but a large majority want to do their financial investing through an advisor," says Fern Gartenhaus, second vice president and 529 plan product manager for NYLIM, which distributes and markets New Mexico's CollegeSense plan.

Michael Lane, TIAA-CREF's director of advisor services, notes the Mississippi and Missouri college savings plans that TIAA-CREF manages recently added broker-sold plans, and the firm already has signed on more than 100 broker-dealers to sell them. Another trend is that more plans are moving toward an IRA-type model, with a wider selection of funds and multiple share classes, Lane adds. TIAA-CREF is involved in plans in 13 states, including California, Connecticut, Georgia, Idaho, Kentucky, Michigan, Minnesota, Mississippi, Missouri, New York, Oklahoma, Tennessee and Vermont.

Tracy Lemoine, Fidelity Investments' senior vice president of program management and development for 529 plans, says advisors see the plans as relationship builders for their practices. Although more investment alternatives now are being offered, age-based pools remain the vehicle of choice, she says. Fidelity manages plans in New Hampshire, Massachusetts and Delaware.

Comparing Plans

In an attempt to make higher education more affordable and encourage saving, Congress enacted many tax benefits for state-sponsored qualified tuition plans (QTPs), which include prepaid tuition plans and college-savings plans. Most QTPs were introduced after the Small Business Job Protection Act of 1996 clarified their federal tax treatment at Section 529 of the Internal Revenue Code.

Since then, college-savings plans have become significantly more popular than prepaid tuition plans. That's partly because the money saved in college savings plans can be used at any eligible institution, regardless of which state sponsors the plan or where the contributor lives, according to Linda Levine, a labor economics specialist, in a 2002 report to Congress.

Earnings accumulate tax-deferred in college savings plans, and beginning in 2002, withdrawals to pay for qualified education expenses became free from federal income taxes. Individuals may contribute up to $11,000 a year per beneficiary as a federal-tax-free gift, and five years' worth of such gifts can be accelerated into a one-year contribution of $55,000. Some states offer income tax deductions and other benefits to residents who contribute. Unlike other college savings vehicles, high-income earners can participate and much more can be accumulated. Also, a plan's beneficiary can be changed.

All 50 states now offer at least one plan, and some offer several, creating a total of about 70 college savings plans across the country. (See our annual 529 Savings Plan Provider Guide compiled by Survey Editor Karen Burke that follows this story.)

Even for advisors, comparing plans can be time-consuming. There is so much information to sift through, and it's difficult to make apples-to-apples comparisons on performance. "I think the key issue with 529 plans is there is a lot of confusion in the marketplace. The state provisions vary widely and the vendor provisions vary widely. You can spend all day doing comparisons on these plans. It can be a struggle to understand them," says Jim Dake, director of financial planning for MetLife Financial Services in Raleigh, N.C., which offers 32 such programs through its broker-dealer.

The Savingforcollege.com Web site is a well-known place to visit to help compare plans. The firm, based in Pittsford, N.Y., is scheduled to introduce a subscription service, 529ProSolutions, in late April or early May that will do client-specific analysis and score plans on investment performance, says Jeffrey Clark, senior vice president for business development at Savingforcollege.com. The platform will evaluate the plans' underlying investments, making it easier to compare performance across plans, he adds.

Other Issues

Assets in 529 college savings plans more than doubled last year to $19.2 billion, FRC's Dow says. Although that was very significant asset growth, the accounts fell short of the $24 billion FRC predicted, mainly because of underlying asset depreciation resulting from the struggling stock market, Dow says. Net sales were between $10 billion and $11 billion, compared with FRC's $13 billion estimate for 2002.

Observers overwhelmingly agree the bear market has slowed asset growth. Not surprisingly, many plans' equity portfolios experienced double-digit losses last year.

But FRC thinks the nascent industry will take off in the coming years and assets will approach $100 billion by the end of 2005. Market penetration is only 5% to 7% of households with children under 18, so there is tremendous upside, especially as advisors and investors learn more about the plans, he says.

At the end of 2002, the average account size was only about $5,750, he adds. The bear market and the fact that many plans have been around for less than two years are contributing to that relatively low average balance, industry observers say.

However, some people are making larger contributions. "We're seeing a good amount from grandparents making gifts," says Bruce Harrington, vice president and director of 529 plans for MFS Investment Management in Boston. "We've had 500 accounts established with $11,000 or more. We've had 250 accounts started with $55,000 and actually had 50 accounts with $220,000-grandma, grandpa and mom and dad all doing $55,000." MFS is program manager for Oregon's MFS 529 Savings Plan and an investment manager for plans in Maine, Colorado and Illinois.

Creating a few clouds on the 529 plan horizon is the fact some states are clarifying or changing their tax rules regarding out-of-state plans. For example, the Tennessee Department of Revenue recently issued a notice saying it will tax earnings annually from out-of-state plans owned by residents, notes Bryan Howard, an attorney with Waller Lansden Dortch & Davis in Nashville. The notice also states that if a resident owning a non-Tennessee 529 Plan dies, the 529 plan will be considered part of his or her taxable estate and subject to Tennessee inheritance tax, he adds.

Still, Howard is optimistic about the plans. "The complexities of 529 plans will undoubtedly keep some people from investing in them. However, in my opinion, the benefits are so substantial that they will continue to be widely utilized," he says.

The College Savings Foundation, formed by several mutual fund companies that manage 529 plans and interested in educating people about them, plans to push for equal state tax treatment and the removal of the sunset provision that would eliminate the federal tax exemption on earnings after 2010, says Sarah Henriksen, a foundation board member and director of education planning for Strong Financial in Menomonee Falls, Wisc. Strong manages seven plans for three states-Wisconsin, Oregon and Nevada.

Advisors Speak

"I think the plans are a very valuable tool in college planning. That's specifically what they're designed for and they certainly have some tax advantages. I don't believe they are turnkey college-planning programs as some states have marketed them. They are not the whole package," says Philip Johnson, a CFP licensee in Clifton Park, N.Y.

Some people try to weigh how college savings plans will help or hurt the chances of their children getting financial aid versus other savings alternatives. But Johnson doesn't agree with that approach. "If you have as a basic element of your college savings plan to qualify for the maximum aid, you may undermine your son or daughter in the admissions process," he maintains. That's because there's less money available for financial aid at the same time there's tremendous competition to recruit the best students and provide more merit-based aid, he says. Without question, a family's ability to pay the bills will help a student get admitted, he says.

Retirement planning also needs to be considered when deciding how and when to fund college savings, says Ray Loewe, CEO and president of College Money in Marlton, N.J. "No one has unlimited money. Do you fund for retirement or college first? I'm a believer that you have to fund for retirement first. There are loans for college, and there's a certain recovery for people after. When it comes to retirement, no one is going to lend you money or give you financial aid. Retirement has to come first, but you have to pay attention to college along way," he says.

Click here for our annual 529 Savings Plan Provider Guide compiled by Survey Editor Karen Burke. (Requires Adobe Acrobat Reader)