![Correct_529_Plan_Over-Withdrawal_1200x628 How to fix 529 plan over-withdrawal](https://cdn.thecollegeinvestor.com/wp-content/uploads/2023/04/Correct_529_Plan_Over-Withdrawal_1200x628.png)
The Prepaid Tuition Plan and the 529 College Savings Plan are special savings accounts used for future college expenses. Prepaid tuition plans work like defined benefit plans, while 529 plans work like defined contribution plans.
There are other important similarities and differences between them. Check out the details of each to find the plan that better suits your college needs.
What is a prepaid tuition plan?
With our prepaid tuition plans, you can buy tomorrow’s tuition at today’s prices. A year’s tuition is always worth his year’s tuition, as the cost of college is fixed. Prepaid tuition plans offer peace of mind by locking in tuition fees.
This money will be invested by the plan’s administrators to provide a hedge against college tuition inflation. This works well when the stock market is booming and tuition increases are modest.
But during the economic downturn and in the years that followed, tuition rose above average, stock prices plummeted, and upfront tuition plans were squeezed in two ways.
Many prepaid tuition plans suffer from actuarial shortfalls, with insufficient prepaid tuition plan assets to cover projections of future college costs.
Prepaid Tuition Plans by State
Some prepaid tuition plans are guaranteed by full trust and credit of the country, but it is unclear what this means in practice.
Upfront tuition plans typically respond to actuarial shortfalls by locking out new investments, terminating plans and reducing the value of benefits. Also, our prepaid tuition plans charge a premium on top of your current tuition to cover any anticipated shortfalls.
The economic benefits of prepaid tuition plans aren’t as good as they used to be because insurance premiums have risen. Refunds for prepaid tuition plans are also limited.
Of the original approximately 20 prepaid tuition plans, only 10 are still open to new participants, including 9 state prepaid tuition plans and 529 private college plans.
A 529 plan offers tax and financial assistance benefits that help families invest money to pay for their future education. Donations to the 529 Plan are made in after-tax dollars. Donations are eligible for state income tax deductions or tax credits in two-thirds of states.
Earnings increase on a deferred tax basis. 529 plan distributions are tax-free when used to pay for eligible education expenses. 529 plans have no annual contribution limits, but contributions are subject to gift tax limits.
Donors can forgo up to annual gift tax deductions per beneficiary without incurring gift tax. The 529 plan also provides his five-year gift tax average, also known as superfunding. 529 plans have total contribution limits that vary by state. Most 529 plans offer a menu of 1 to 20 investment options, such as stock and bond mutual funds.
529 plan investment options
All 529 plans offer static investment options as well as dynamic investment options such as age-based or enrollment date asset allocation. There are two main types of 529 plans: Direct Selling and Advisor Selling. The Direct Selling Plan is administered by the state and has lower fees than the Advisor Selling Plan, which is administered by a financial advisor.
Minimizing costs is the key to maximizing net profit. Most families should choose the 529 plan which charges less than 1% of hers. There may be a trade-off between low fees and preferential state income tax.
Generally, families should opt for the lower priced 529 plan until their children enter high school. If your state offers a state income tax deduction for donations, you should switch your new investment to the state’s 529 plan.
Wyoming is the only state that does not offer a 529 plan. Most offer a direct-sold 529 plan and one or more advisor-sold 529 plans.
What is the difference between prepaid tuition and the 529 plan?
Both the prepaid tuition plan and the 529 plan offer tax and financial aid benefits, as well as other flexibility. Distributions are tax-free when used to pay eligible educational expenses.
The earnings portion of a non-qualified distribution is subject to income tax at the recipient’s tax rate, plus a 10% tax penalty.
If a dependent student has a prepaid tuition plan or a 529 plan, FAFSA will report it as parental property. This will lessen the impact on your eligibility for need-based financial aid. Account holders have the option to change the beneficiary to a family member of the current beneficiary.
Unlike the Coverdell Education Savings Account, There is no income limit for contributions to the tuition prepayment system and the 529 systemBoth the prepaid tuition plan and the 529 plan offer automatic investment options and families can save on both.
State residents are a major factor, as most 529 plans are not, but prepaid tuition plans are limited to state residents. Massachusetts Prepaid Tuition Plan and Private College 529 Plan are the only exceptions.
Target universities are also different. Prepaid tuition plans can only be used at public colleges in the state in which they are purchased. If the student attends a private or out-of-state college, the family must pay the cost difference. However, prepaid tuition plans can be carried over to the 529 plan.
Time and age limits also exist. Most prepaid tuition plans must be used within 10 years of regular college enrollment and are limited to 8, 15, or 30 years in some states. Private college 529 plans have a 30-year limit. Some prepaid tuition plans also have age restrictions, for example he is 30 unless he is in college and has an extended period of military service. Prepaid tuition plans have a limited open enrollment period, but families can open the 529 plan at any time.
There are also differences in the definition of eligible expenses. Expenses covered by a prepaid tuition plan are limited to tuition and required fees.
Costs covered by the 529 plan include:
- Tuition
- commission
- books
- Fixtures and equipment
- Computer expenses (including peripherals, software and internet access)
- Special support fee
- Room and board (if student is enrolled at least half the time)
Additionally, you can use the 529 plan to pay up to $10,000 annually in K-12 tuition and up to $10,000 in student loan repayments for students and siblings of students (lifetime limit per borrower).