More advisors are suggesting a combination of prepaid tuition plans and traditional college savings plans for clients who are saving for their children’s education.
Both types of plans offer tax advantages under Section 529 of the Internal Revenue Code if used to pay for qualified college expenses but their mechanics are very different.
Prepaid tuition plans enable families to lock in future college tuition at current rates and are immune from market volatility. Savings plans offer no guarantees on tuition or market risk, but cover a wider span of eligible expenses and can potentially provide big investment upside.
Larry Rosenthal, president of Manassas, Va.-based Rosenthal Wealth Management Group, encourages clients to consider prepaid plans and college savings plans. When he sits down with parents and grandparents to do planning, “We step them through both to see what’s in their best interests,” he says.
He considers a client’s ability to save on a consistent basis and the percentage of college they wish to pay for. Some plan to fully fund it while others will have their children contribute. Rosenthal also discusses clients’ risk tolerance, studies the latest data on tuition inflation, and runs the math to see how much clients will need to earn on their investments to accumulate enough college savings.
“From a financial planning prospective, you need to understand both directions,” says Rosenthal, whose clients have used prepaid tuition plans, college savings plans or both. “Either way, you have to save the money.”
Wil Smith, director of wealth management for Crown Wealth Management in Costa, Mesa, Calif., learned about prepaid tuition plans while studying for his CFP certification and talks to all his clients about them. “If you’re in a state with one of these plans, that’s a winner of a deal,” he says. About a dozen states offer them to new enrollees.
California doesn’t offer a prepaid plan so he tends to steer clients to Private College 529 Plan, where he opened accounts for his young children. Contributions to the plan, the only one for private schools, are used to purchase guaranteed tuition certificates for more than 280 participating private colleges nationwide. Each certificate, redeemable for up to 30 years, will pay for a semester of tuition regardless of how much tuition rises or how the financial markets perform.
The plan has slightly more than 8,100 accounts and an average account balance of approximately $35,000, says Nancy Farmer, president and CEO of Private College 529 Plan. If a child doesn’t enroll in a participating school, families can request a refund, change the beneficiary to another family member (also permissible with college savings plans), or roll the assets to another 529 plan and use the funds to pay higher education expenses at any college or university.