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Treasury issues report calling for 529 improvements

(September 9, 2009) - The U.S. Treasury Department has issued a report prepared for the White House Task Force on Middle Class Working Families titled An Analysis of Section 529 College Savings and Prepaid Tuition Plans. The report provides an explanation of 529 plans and summarizes findings of Treasury's investigation of the 529 landscape and issues surrounding the structure and use of 529 plans.

In its report, Treasury makes five recommendations to improve the effectiveness of 529 plans:

1. Provision of age-based index funds. Most, but not all, 529 savings plans offer age-based investment options. Of those that do, slightly more than half utilize index funds, while the others utilize actively-managed funds. Treasury believes that age-based index funds should be made available in all 529 savings plans.

2. Eliminate home-state bias. Many states currenlty provide special incentives to use the in-state 529 plan, offering state tax deductions, state financial aid preference, and other benefits. Treasury feels that states restricting these benefits to the home-state 529 plan is unfair and dampens competition among the plans. States should open up these benefits to their residents using any 529 plan, and adjust the benefits as needed to prevent a budget problem.

3. Per beneficiary contribution limits. Treasury is concerned that accounts can theoretically be established in multiple states for the same beneficiary and thereby allow grossly excessive amounts to be accumulating tax-deferred. To prevent this, Treasury recommends that an overall cap be established, and that once the principal portion of distributions on a cumulative basis exceed that cap, further distributions be considered nonqualified and become subject to a penalty.

4. Improved transparency. Treasury would like to see a standard reporting format for historical investment returns in 529 plans such that they can be displayed on a central website. Better statistics gathering on plan usage is also recommended.

5. Improved monitoring and compliance. "To reduce the potential for abuse, Congress and the states should work together to strengthen compliance and monitoring of Section 529 accounts and their disbursements."

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