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529 distributions: 4 approaches to take
Amy Buttell is a freelance writer based in Pennsylvania
Spending the money you've saved for college is more complicated than you might think, especially if you've got the money invested in different assets. Not only do you have to decide how much money to take each year, but you also have to decide whether to take the money from your money market, bond or stock funds.
While it's risky to have a lot of assets invested in the stock market right before your child goes to college or while that child is in college, it can make some sense to have at least a small portion of 529 plan assets invested in stocks, says Dan Yu, a director of EisnerAmper LLP in New York. If you also have bonds and a money market fund in your child's 529 plan, you'll increase your fund-withdrawing options.
For many, assets are invested in an age-based account that is automatically allocated among stocks, bonds and money market funds. Typically, that account rebalances automatically among these assets and gets more conservative as a child gets closer to attending college.
In some cases, a conservative, age-based, asset-allocation plan switches all assets into a money market fund by the time the child goes to college. If you have all of your assets in cash, such as a money market fund or stable value account, you don't have to worry about taking money out of different asset classes because all your money will come out of either the money market fund or stable value account, neither of which experiences much change in value based on movements in the stock or bond markets, says Yu.
In other cases, assets are spread among individual mutual funds or a package of funds within a 529 plan. If you do have assets spread among stocks, bonds, money market funds or stable value funds, or even just split between bonds and a money market or stable value account, here are four options to think about when taking 529 plan distributions.
Rebalance your assets. "I have used a distribution to try and rebalance an account to some degree to maintain my once-a-year investment change option," says Peter Donohoe, CFP, a wealth management specialist with PRW Wealth Management in Quincy, Mass.
"For example, if in January I see that a portfolio needs re-allocation to be in line with the client's risk tolerance and (the client) also needs a distribution, I will attempt to take that distribution from funds in amounts that will perform my reallocation process," Donohoe says. Rebalancing involves withdrawing money from different assets to keep an asset allocation -- the percentage of your assets invested in different assets such as stocks and bonds -- the same.
Take money off the table. If the stock market has been rising, take more money out of your stock account than the bond or money market accounts, says Dan Danford, CEO of the Family Investment Center in St. Joseph, Mo.
"If you have stocks in your 529 account, you can take some profits when the market is good," Danford says. Because college funds are spent over a period of time -- usually four years -- it makes sense to diversify your assets and allow for some growth potential in these accounts.
Avoid taking money out at the wrong time. Conversely, when the market is down, you don't want to have to remove assets and take a loss, Danford says.
"One reason to keep some bond-type investments in any long-term account is so you don't have to cash out of stocks at a bad time," he says. By taking the money you need for college out of money market and bond funds when the market is down, you can wait for stocks to rebound. Then, you can take money out of the stock portion of the 529 account when the market environment is more favorable.
Draw equally from all assets. Another way to keep your overall asset allocation in balance is to draw money equally from stock, bond and money market accounts.
"Typically, I pull assets in proportion from the existing portfolio," says Donohoe. This is pretty easy to implement. If you have an age-based allocation that is invested in several different types of assets or individual funds, take the money out of all 529 accounts equally, he says. For example, if you need to withdraw $9,000 and you have money invested in stocks, bonds and a money market account, take $3,000 out of each individual fund or subaccount in the case of an age-based 529 plan.
Posted November 5, 2010