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So Says the 529 Guru

No. 5
Joe Hurley
Thursday, January 9th 2003

Question: My question is regarding the status of "the non-profit Tuition Plan," a consortium of over 275 private colleges that was supposed to launch a 529 prepaid program in 2002. This is mentioned in your book. - Pankaj on the Message Board

Answer: You shouldn't have to wait too much longer, Pankaj. The consortium has at long last received a ruling from the IRS that its private-college prepaid tuition plan, called the Independent 529 Plan, qualifies as a 529 plan. Until it passes SEC scrutiny, however, the consortium won't be going public with details. A mid-year 2003 launch now seems possible.

I expect the program to generate a fair amount of interest. It includes nearly 300 member colleges and universities spread over 40 states and the District of Columbia. Most of the Ivies, and many other well-regarded private colleges, are part of the group.

The program will operate like the Massachusetts U.Plan, a non-529 prepaid tuition plan that has been around for several years. (U.Plan is limited to participating Massachusetts institutions. Visit for details). You will be able to purchase a certificate redeemable for a pre-established percentage of tuition at any member school, providing at least some insulation from future tuition increases. If you deposit $10,000 for example, the certificate might be worth 75% of tuition at College X but only 50% of tuition at College Y. Each participating school is required to "discount" its tuition price in setting its percentage, so that your deposit buys more than current tuition.

Potential downsides? Under current law, prepaid tuition plans will hurt your child's eligibility for federal financial aid. The college your child attends might also be less inclined to offer a scholarship or tuition discount, seeing that you have already paid for at least some part of the tuition.

If your child decides not to attend (or doesn't get accepted to) one of the member schools, you can request a refund and receive your original deposit back adjusted for fund investment performance. (A narrow collar—reportedly plus or minus 2% annualized—is applied in determining this adjustment.) You could then roll the funds over to another 529 plan to avoid tax and penalty on any earnings. TIAA-CREF, program manager to 13 of the state-sponsored 529 savings plans, has been hired to administer the Independent 529 Plan and invest fund assets.

Question: My daughter went back for her second year at a private college and the school's financial aid application asked if we had a 529 plan for her. The college then decreased her aid award because we answered truthfully about owning a 529 plan. They didn't ask about this for her first year of school. What's going on here? - MW, Schenectady

Answer: Now that the financial-aid season has started, we're getting a lot of questions about 529 plans and their impact on a student's aid eligibility. I'm guessing you feel like the "victim" of a school that wants to punish you for having sacrificed in order to set aside some money for college. Others might argue that the school is doing exactly as it should: allocating its scarce scholarship funds to those families without adequate savings.

The frustrating part is that there is little consistency in how schools view families with 529 accounts. Schools are free to do pretty much whatever they want with their own money in offering scholarships and tuition discounts. Some schools, apparently including your daughter's, have decided to be rather harsh. Others are either not so harsh or haven't gotten around to establishing a specific policy for 529 accounts because they haven't seen too many of them yet.

It's a different situation for purposes of federal financial aid. Student eligibility for federal loans, grants, and work-study is determined by a formula set forth in the law. Of course, the law doesn't say anything specifically about 529 savings plans. The U.S. Department of Education ("DOE") is telling applicants and school financial-aid officers to treat 529 plans as parental assets, which is good news because parental assets are assessed at a much lower rate than student assets. 529 plans owned by grandparents are not supposed to be counted at all. Tax-free distributions from a 529 plan also don't get picked up on the FAFSA aid application, at least for now, according to recent rumblings from DOE.

The federal financial aid rules will be up for grabs in 2003 as Congress must pass legislation to reauthorize the various programs. Surely, there will be some attention given to the treatment of 529 plans, and things could change going forward.

But is there anything you can do right now concerning your 529 account for your daughter? Yes, possibly. If the 529 plan is hurting her award, think about spending it on college expenses as quickly as possible so the account does not impact next year's award. It might help to switch the beneficiary designation away from the college student, either to a younger child or even to yourself. You could also think about revoking the 529 funds, as long as the resulting tax and penalties are not too severe. I suggest you ask the school about its 529 policy before making any dramatic changes, however.

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