Bear market shouldn't scare 529 savers



Dear Joe, We opened a 529 plan for my daughter when she was 1, and have put in a total of $5,000. We have watched it dwindle down to just over $4,000. Since then, we haven't added to it and she is almost 2. We have more to add to her college fund, but are afraid to put our money where it seems to be losing. Should we continue to put her college fund in the 529 plan? Or should we just put it elsewhere until the market improves? If the answer is to go elsewhere, then where? -- New Mom


Dear New Mom,

Many investors are feeling your pain. Whether it's their 529 accounts, 401(k) plans, IRAs or neighborhood investment clubs, they've seen account values drop over the past year and are wondering what to do about it.

The right answer may be to do nothing.

Your child is not yet 2 years old, which means the college savings account has plenty of time to recover before you begin withdrawing funds to pay college bills.

History is no guarantee, but strongly suggests that an investment account weighted more heavily in stocks will perform better through market cycles than one that stays with money market funds or other "safe" investments.

At the beginning of this decade, many 529 plan participants were feeling just as you do now. The Dow Jones industrial average suffered three straight losing years from 2000 to 2002, and in 2002 alone the index shed 16.76 percent of its value to close at 8,341.63.

Fast forward to September 2008. As the month opened, the Dow Jones industrial average stood at 11,543.55, representing a 38 percent gain from the end of 2002, in spite of its 1,814 point (13.6 percent) loss over the previous 12 months. College savers who exited the stock market at the end of 2002 are probably not doing as well as those who stuck with it (although perhaps they sleep better).

Although you don't say, it's likely you selected an age- or matriculation-based investment option in your 529 plan. These options are specially designed for college, starting out mostly in stocks when your beneficiary is young and automatically shifting to fixed-income and principal-guaranteed investments as she nears college age.

To me, the age-based option makes a lot of sense, even when you are forced to accept the higher risk of the market while your child is young.

If you decide to stay away from the stock market with the additional money you're ready to set aside for your daughter's college savings, you can still find excellent low-risk options in many 529 plans. Such low-risk options include money market funds, principal-guaranteed products, bank certificates of deposit and inflation-protected securities.

Later on, you can switch to another investment option if you decide you want to take on more risk. Switching to a different investment option in your 529 plan is permitted one time per calendar year. A few 529 plans allow for dollar-cost averaging from their money market option into equity-weighted options. These transfers do not count against your once-per-calendar-year investment change.

With your account currently in a loss position, you could decide to liquidate it and claim a miscellaneous itemized deduction on your tax return. But first, check with your tax professional. Miscellaneous itemized deductions provide no benefit unless they exceed 2 percent of your adjusted gross income.

If you can get a tax benefit, be sure to wait 61 days before re-contributing the proceeds to

Popular Questions


Two kids, two 529 plans?

Dear Big Bill,
While it's possible to maintain a 529 plan in just one child's name, even when you intend to send more than one child to college, I generally recommend that families open a separate 529 account for each child.

That's assuming there is no additional cost to maintaining multiple accounts. If your 529 plan charges an annual or quarterly account maintenance fee, check to see if you can avoid the fee by signing up for automatic contributions through payroll deduction or electronic funds transfer)

With a separate 529 plan for each child, it becomes easier for you to tailor the mix of stocks, bonds and stable-principal investments (e.g., stable value, guaranteed principal and money market funds) to the particular ages of your children. When your older child is nearing high school graduation, you may want to ratchet down the level of market risk in her 529 plan. At the same time, you could keep a more-aggressive asset allocation in your younger child's 529 plan, accepting more risk for a potentially higher return. Many 529 plans offer "age-based" investment options that automatically make these adjustments as the beneficiary ages.

Separate accounts for your children also offer more gift-tax leeway. Since your 529 contributions are treated as gifts from you to the account beneficiary, your $15,000 (in 2018) annual gift exclusion will go twice as far with two accounts -- one for each child -- than with just one account.

Financial aid is another reason to recommend maintaining separate accounts. You wouldn't want the investments reserved for your younger child's future college expenses to count against your older child's financial aid eligibility. Be warned: The rules here are rather murky, and the impact of a sibling's 529 account may depend on the college's own policies as well on as the type of aid -- federal or institutional -- being sought.

Finally, I believe that separate 529 accounts allow for better family bookkeeping. There will never be any doubt as to your intention to help send all of your children to college. You'll avoid the uncomfortable position of being asked to explain to a curious 8th-grader why account statements are showing up in the mail with only a brother or sister's name on them. And in the event of your death or divorce, no matter how unlikely, your legal representatives and other family members will have less reason to question your actions in setting up and funding the 529 plans.

Even with separate accounts, you'll continue to have the flexibility to shift the money around in the future. You simply need to make sure that whenever funds are withdrawn from the 529 plan to pay for college they are coming from an account in the name of the child incurring the costs. It's a simple matter to change the beneficiary designation among family members at any time, transfer 529 funds between different family members' accounts or split one 529 account into two. The ability to move assets around the family is a key advantage of 529 plans when comparing other college-savings alternatives, such as Uniform Transfers to Minors Act, or UTMA, accounts.

Original Post: 2005-10-13
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Coverdell ESA vs. 529 Plan: Which to choose? (Script)

The Coverdell ESA and the 529 plan are both excellent college savings vehicles because they are both tax-free when used for college. But many families face a choice: do they use a 529 plan for all of their child's college savings, or do they use a Coverdell for the maximum amount of $2,000 each year and put any any extra savings above $2,000 into a 529 plan? In spite of its low annual contribution cap, Coverdell's are now attracting quite a few families. There are two major reasons for that. One is that only the Coverdell allows you to self-direct your investments, just like you might self-direct the investments in your IRA. The other is that in addition to college expenses, Coverdells can be withdrawn tax-free to pay for a broad range of K-12 expenses, while 529 plans are limited to K-12 tuition. This feature is appreciated most in families planning to send their children to private grade schools, which may include additional costs such as room and board or uniforms. A 529 plan, on the other hand, does not impose age limits or income limits like the Coverdell does and so overall we see a lot more money going into 529 plans than into Coverdells. Plus many savers are happy with the investment choices offered by the 529 plans and don't necessarily want to self-direct their investments. And don’t forget this: your state may be giving you a state tax deduction for using a 529 plan, but there are no states offering a state tax deduction for investing with a Coverdell ESA.

Learn more about Coverdell ESAs.

Original post date 2013-07-15
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Top 529 Plan Withdrawal Tips. (Script)

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Top 529 Plan Withdrawal Tips. (Video)

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