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Have any idea what a 529 plan is? If you aren't too sure, you have plenty of company.
According to a survey of more than 1,000 people conducted for financial services firm Edward Jones, nearly three-quarters of respondents didn't know a 529 plan is a college savings account.
The 529, named after Section 529 of the Internal Revenue Code, is a savings plan that offers tax advantages to help parents prepare for future college costs.
College-savings plans are sponsored by a state or a state agency; individual accounts are set up by a parent, grandparent or other adult with a child as a beneficiary. Account holders can select from an assortment of investment choices, from a low-risk savings account insured by the Federal Deposit Insurance Corp. to one that invests in stocks to increase the potential for a higher rate of return.
Earnings grow tax deferred and can be withdrawn free of federal income tax if they are used to cover higher education expenses such as tuition, books and room and board at an accredited college or technical school.
A number of states have good 529 plans, and Utahns are free to invest in any of them. But Utah has a top-rated, low-cost and user-friendly plan of its own. The Utah Educational Savings Plan, which manages more than $4.6 billion in assets, allows families to open accounts with no initial deposit. They can set up automatic investments of any amount or simply contribute to their account when they can afford to. Contributions also can be made automatically each month either via a transfer from a checking or savings account or directly via payroll deduction.
As an added bonus, Utah taxpayers can claim a 5 percent annual Utah state income tax credit on contributions if they meet certain criteria. For the 2012 tax year, the tax credit is worth as much as $178 per beneficiary.
Despite the benefits, though, many families fail to save because they think they can't possibly put away enough money to pay for the ever-escalating cost of college .
But every little bit helps, says Lynne Ward, UESP executive director.
"We have some families that are sending us $5 to $10 a month," she said. "Ten dollars a month isn't going to pay full tuition. But it could help pay for things like books and fees. We encourage families to save what they can, when they can."
As with any type of savings vehicle, the 529 isn't perfect.
The biggest drawback is the possibility that your child won't end up going to college. Any earnings accrued in a 529 account that are used for anything other than qualified education expenses are taxed on the federal level as ordinary income and subject to a 10 percent penalty. (If the beneficiary gets a scholarship, the penalty is waived on withdrawals up to the amount of the scholarship.)
That said, parents do have some flexibility, Salt Lake City Certified Financial Planner Sharla Jessop said. "If you set up a plan in one child's name and they don't go to college, you can transfer the account to another child and avoid the penalty," she said.
Even if no one in the family wants to go to college, it's important to remember that any taxes or penalties are assessed only on earnings, not on amounts directly invested in the 529 account. If you made $20,000 in contributions to your child's college savings account over time and it earned $2,000, your total account value would be $22,000. But if your child doesn't go to college, you would pay the taxes and penalties only on the $2,000 in earnings.
Another disadvantage is that account holders are limited to the investment choices of the plan and the fees charged by the agency that administers the 529 plan. High fees can eat away at any earnings. Some 529 plans have fairly high fees and limited investment choices.
But many 529 plans, such as Utah's, have a broad array of investment choices with varying degrees of risk and return designed to fit the needs of most investors and low to moderate fees.
To find a suitable 529 plan for your family, you may want to use Kiplinger.com's interactive tool at Kiplinger.com/tools/best-529-college-savings-plans. Remember, you are free to open a 529 account in any state you wish. With the state income tax deduction, Utah's plan is an attractive choice for residents of the Beehive state, according to Kiplinger, which publishes Kiplinger's Personal Finance magazine.
I'm a big fan of 529 plans. In my view, one of the biggest advantages of a dedicated college savings accounts is more psychological than tangible. When a parent or grandparent sets up a 529 plan, they often are more likely to make regular contributions and less likely to raid it than they would a regular savings account. Did your television set go kaput? You may be less likely to buy a new one with money from your child's college savings account than with a regular savings account.
Jessop agrees.
"You're dedicating in your mind that you are saving for a particular reason," she said. "There's a mind-set that goes along with that. You're probably not going to get into (a 529 plan account) and withdraw money when you shouldn't."
Over time, that could mean more money for college and less debt for you and your child. And can make the 529 a powerful financial planning tool that you may want to take some time to get to know.
Lesley Mitchell writes One Cheap Chick in daily blog form at blogs.sltrib.com/cheap.
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What do you know about 529 plans?
According to a recent survey by financial services firm Edward Jones, nearly three-quarters of Americans don't know what a 529 college savings plan is. In a survey of 1,000 people, 62 percent chose the wrong answer in a multiple-choice question asking what a 529 plan is. About 14 percent of the respondents didn't even attempt to answer: They said they didn't know.
According to the survey, knowledge of 529 plans increases along with income. Only 27 percent of respondents making less than $35,000 a year correctly identified the definition a 529 plan; the percentage increased to 57 percent for those earning $75,000 and $100,000 annually. More than 62 percent of respondents making more than $100,000 annually identified the correct answer.
Education also plays a factor in awareness of 529 plans. More than 50 percent of respondents with college degrees knew what a 529 plan is compared with 33 percent for those who did not complete a college degree.