Saving for College: 529 Prepaid Tuition Plans

In a previous article, I discussed how the 529 savings plans can make saving for college easier, especially when starting to save early. In addition to the regular state sponsored 529 savings plans, two different types of 529 plans exist, 529 Prepaid Tuition Plans and the Independent 529 Plan. Think of the first as a prepaid tuition plan for public state colleges and the second as a prepaid tuition plan for private colleges.

529 prepaid tuition plans are plans that lock in tuition at today's rates rather than the prevailing rate at the time of entry to college. Since college tuition has historically gone up faster than inflation, these plans are a good way to beat inflation without the risk of fluctuating investments.

Not all states offer 529 prepaid tuition plans but those that do usually honor the credits purchased at most of their public schools within that state. Some states allow a tax deduction for contributions and many waive the state taxes on the increased value. There is no federal tax on these plans. The downside to these plans is that the beneficiary is limited to public state colleges and in many cases must be a resident of the state.

Within the family of 529 prepaid tuition plans is another option to consider, the Independent 529 Plan. The Independent 529 Plan, which started in September 2003, opens the doors to over 220 private universities and colleges across the country. This offers greater flexibility and choice in colleges, allowing the beneficiary to choose a private college regardless of the particular state. An important note about how the money in an Independent 529 Plan can be spent: These funds are designated only for undergraduate tuition and related fees and may not be used for books, room and board or supplies or other educational expenses.

Holding tuition credits in a 529 Prepaid Tuition Plan or Independent 529 Plan doesn't guarantee admission to any of the participating colleges. If the beneficiary doesn't end up attending college in one of the colleges, a refund of the original purchase price may be issued, a new beneficiary can be named or the funds can be rolled over to at state sponsored 529 plan. Be sure to check the fine print and policies of any prepaid tuition plan before signing on the bottom line.

Purchasing a 529 Prepaid Tuition Plan or Independent 529 Plan makes more sense with an older child who has a sense of their college plans. For those who know they want to attend a particular out of state private college choosing an Independent 529 Plan a few years in advance will help financially. Making these decisions when they are preschoolers, while a financial advantage, may not make as much sense.