March 1, 2018. By Olga Okaty:

With higher education costs continuing to rise dramatically and over forty-five plan options to choose from, it is essential for families to be thoughtful and strategic in selecting the 529 plan that best aligns with their particular circumstances and needs. There are multiple factors to consider during the 529 plan due diligence process, including tax incentives, investment options, asset allocation trajectory, fees, ongoing monitoring process, and fit within a family’s overall financial plan.

With many states offering a state income tax deduction for residents contributing to their state’s plan, these tax savings can present a positive incentive leading many to default to the local 529 option.  While evaluating tax-saving opportunities is a good starting point, this should not be the only consideration as the tax deduction may not be worthwhile if the plan is expensive, has limited investment options, or is lacking in some of the other aspects mentioned above.

One of the keys to successful 529 plan investing is selecting the proper asset allocation between riskier, growth-oriented assets (stocks) and more stable vehicles providing income and liquidity (investment-grade bonds and cash).  Generally, the appropriate asset allocation will depend on the available time horizon until funds are needed, with a higher allocation to stocks when investments have a long time to grow and a much more conservative allocation if the funds will be needed in the next few years.

To assist families with asset allocation decisions, many 529 plans offer age-based or target-date options, which begin with a high stock exposure when a child is fairly young and gradually shift to more bonds and cash as the child approaches college age.  However, not all age-based or target-date portfolios are created equal, and the underlying asset mix between stocks, bonds, and cash can vary greatly between 529 plan providers, presenting very different levels of risk and volatility.  Moreover, the asset allocation trajectory (also known as a glide path) that each plan’s age-based or target-date portfolio follows as investment exposures shift from stocks to bonds over time can vary sharply, with some plans following a smoother path and gradually shifting their risk exposure and others implementing more drastic, sudden reductions – a risky move if these shifts occur during an untimely market downturn.  Families should therefore review asset allocations and glide paths carefully to ensure alignment with their timelines and desired level of risk.  Those utilizing 529 plans to cover private K-12 costs should be especially vigilant, as a shorter time horizon may warrant less equity risk.

Another factor which plays into the 529 selection equation is plan fees, which may include enrollment fees, maintenance fees, and underlying fund expenses, all of which can vary significantly among plans.  While the lowest-priced option may not always be the best one in terms of tax incentives or investment choices, finding a high-quality, competitively priced plan is important to maximize long-term performance and ensure more effective return compounding over time.

A related consideration when discussing plan fees is whether it’s better to choose an adviser-sold versus a direct-sold plan.  While direct-sold plans generally tend to have lower fees, they are best utilized by families who are comfortable investing their time and effort in evaluating and understanding the different plans available. This includes understanding the tax implications and conducting the proper due diligence to ensure the plan’s investment options and asset allocation trajectory align with their personal investment goals and risk preferences, including monitoring their investments and adjusting their personal strategy as circumstances change.  Alternatively, an adviser-sold plan may be more appropriate for families preferring to work with an advisor who can provide personalized guidance on asset allocation and investment decisions, as well as assistance with ongoing plan monitoring and strategy implementation.  An advisor can also provide a more comprehensive planning approach, coordinating a family’s education funding goals with their other financial objectives, which may include funding a comfortable retirement, minimizing taxes, establishing a philanthropic legacy, or preserving family wealth across multiple generations.

Our dedicated team at Centerpoint Advisors is always available to answer any questions related to 529 plans and education funding strategies.