There are two types of tax-advantaged 529 accounts for those saving for college: prepaid tuition and college savings plans. Prepaid tuition plans tout the benefits of saving by locking in current tuition rates, but the plans aren't for everyone, some financial experts say.
Prepaid tuition plans are often sponsored by states, allowing account holders to purchase tuition at roughly today's rates and redeem the credits in the future, with the state often absorbing any tuition increases during the years in between.
But, with widespread budget cuts and rising college costs, relying on a state to fulfill a financial guarantee in the future could be a risky proposition, notes Kevin Campbell, founder of College Planning Authority, an advising company based in Texas. To date, Alabama's plan has frozen its payouts at 2010 tuition levels, Colorado's plan is no longer open to new account holders, and the plan in New Mexico has been terminated, among other changes.
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"Since 2008, there's been quite a few who have either stopped new enrollment or who have shut down completely and that makes you go, 'I don't know if this is a good plan,'" Campbell says. "Granted, as long as the states stand behind it, they're secure, [but] these days, I don't know that I would recommend it when there are other alternatives."
Even in a fully-funded program, the plans are limiting. To get the full payout for your pre-paid dollars, some plans restrict beneficiaries to public colleges in the state, while the Private College 529 Plan tuition certificates are currently only applicable at 270 colleges.
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However, the limits could pay off for diehard alumni who want their children to follow in their footsteps, says Robert Weinerman, senior director of college finance at educational advising company College Coach.
"If Mom and Dad and Grandma and Uncle Joe [went to the school] and by gosh, so are you, then I think it's a great deal," he says.
Prepaid college tuition plans could also be convenient in a divorce settlement with a college fund requirement—the only situation in which financial aid expert Mark Kantrowitz would recommend using a state-sponsored prepaid plan, he says.
"A prepaid tuition plan can allow either party to address their college support obligation through a lump sum contribution," says Kantrowitz, who founded FinAid.org and FastWeb.com.
Being able to put away a lump sum is key for anyone interested in using a prepaid tuition plan, Weinerman notes. High interest rates in some of the plans may make monthly payments a prohibitively expensive way to save, he says.
"You should only invest in a prepaid tuition plan if you can put the money down completely," he says. "It's not something you want to buy over time."
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While prepaid tuition plans aren't touted as smart options for many savers, its 529 counterpart, college savings plans, could be right for more people. The plans involve investing, and are often best used if savers start when a child is quite young, gradually shifting to lower-risk investing as the beneficiary nears college age. Those plans, says financial aid expert Kantrowitz, are less of an "empty promise" than prepaid tuition plans could turn out to be.
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