How to Choose the Best 529 Plan
With so many options out there, you might need some information about how to choose a 529 plan for your financial situation. 529 Plans yield a wide range of savings opportunities, and each plan tends to favor some benefits over others.
To find the best 529 Plan for you, you’ll have to sort out which features benefit you most. Are you looking to optimize your state income tax breaks, or your plan’s investment portfolio? Are you looking for short-term, medium-term, or long-term investments? We’ll help you determine the answers to these questions and establish criteria to find the best plan.
529 Plans explained
A 529 Plan is a type of savings plan that students, their family, and family friends can use to help save for college. The 529 Plan has special educational tax advantages. Withdrawals are not subject to federal, and usually state, taxes. This means that your investment can grow over time without being taxed. If you are saving for college for yourself or for someone else, 529 Plans are typically the best way to do it. Their benefits are magnified the earlier you start saving.
State income tax breaks
Perhaps the biggest advantage of 529 Plans is their exemption from income taxes. If your state offers a plan that is exempt from state income tax, this can yield huge savings. You can deduct your 529 Plan contributions from your state income taxes at the end of the year. Afterwards, the state will return all of the income tax you paid on that sum of money.
Read more: How much is the 529 deduction worth?
Direct-sold 529 Plans vs. advisor-sold
Direct-sold and advisor-sold 529 Plans each have their own benefits and drawbacks. Direct-sold plans typically have lower fees and can be opened by the account owner online. Advisor-sold plans typically have higher fees and are opened through a licensed financial advisor.
Although they come with higher fees, advisor-sold 529 Plans can have a host of advantages. If you need help coming up with a comprehensive plan to finance your child’s education, an advisor can be invaluable. A recent study found that 67% of families who worked with an advisor felt confident in their college finance plan. Only 40% of families without an advisor shared this sentiment.
If you already feel confident in your planning, an advisor-sold plan may not be worth the added fees. But if you’re unsure of how much to deposit into your 529 Plan per year, consider an advisor-sold plan. You can also consider hiring a financial advisor independent of your 529 Plan.
Minimum contribution requirements
Some 529 Plans have minimum contribution requirements. That means you’ll have to deposit a certain amount annually or per month. You should be confident in your ability to satisfy your plan’s minimum requirement. If the minimum contribution will cause you to struggle to pay your other expenses, it’s probably not a good fit.
Related: What are the 529 Plan rules?
Investment risk options
Most 529 Plans will allow you to choose an investment portfolio based on its risk level. There are typically a spread of investment options that range from conservative to risky. Some 529 Plans don’t have this option, and some may only give you a choice from a few different risk levels. If you want to have more control over your portfolio, seek out a 529 Plan with many risk options.
Weighing return on investment and fees
Oftentimes, plans with a higher return on investment also have higher fees. Choosing a plan with high fees and a high return on investment is usually more worthwhile if your timeframe is long. This allows your money to grow for a longer period of time, and you will see compounding gains.
So, if you start investing early, you may find that high fees are worthwhile for the added return on investment. However, if you start your 529 Plan later, you may opt for lower fees and lower return on investment.
When to choose an out-of-state plan
Every state offers its own 529 Plan, but people are not constrained to the plan their state offers. You can open a 529 Plan from any state if you decide to. More often than not, people choose to open a plan in their state because of the tax benefits it provides. Most states offer 529 Plans that are exempt from their state income taxes.
However, for people who live in states with no exemption, there is less reason to choose a plan in your state. Additionally, some states allow their residents to deduct their state income taxes even if their 529 is in another state. If you are in either of these situations, there’s a good chance that your best 529 option will be in another state. Try shopping around, and prioritize your return on investment and lowering your fees.
Now that you have the criteria for a good 529 Plan and a guide to your options, you can start the search! Try looking at the plan offered by your state first, and then look into options offered by other states. Consider the state of your finance planning to determine whether you want a direct-sold plan or an advisor-sold one. And remember that the earlier you open your account, the more your savings will compound. Best of luck with your search!
Read more: How much can I contribute to a 529 Plan?