College students like me are painfully aware of tuition prices. What’s more, the cost of attending college is constantly rising. Even still, many families want to help their children pay for college. To accomplish this, many people use tax advantaged college savings vehicles called 529s. Recently, alternatives to the traditional state-sponsored 529 plans have emerged. In this post we will look at The Private College 529 Plan – how it works, the positive attributes, and some drawbacks.
How does it work?
The goal is to save for participating private colleges and universities, while avoiding the erosion of purchasing power caused by tuition inflation. This is accomplished by offering prepaid tuition called “Tuition Certificates”.
Buying certificates locks in a percentage of the total at any participating institutions. You do not have to pick a specific school when you purchase certificates. The percentage you get depends on how much each school costs at the time of purchase. For example, if you buy $10,000 in certificates, Notre Dame costs $40,000 per year and Stanford costs $50,000 per year, you own credit for 25% of a year’s tuition at Notre Dame but only 20% at Stanford. The certificates can then be used in the future to pay for tuition and mandatory fees at any participating institution. They cannot be redeemed for 3 years or refunded for 1 year.
Like many 529s, there are minimum/maximum contribution limits. Participants must contribute a minimum of $500 within 2 years of starting the plan. Maximum contributions for 2017-2018 were $276,050, 5 times tuition at the most expensive participating college.
Strengths:
According to CollegeBoard, In the decade from 2007 to 2017, prices rose by an average of 2.4% annually at private nonprofit four-year institutions, beyond inflation. This plan offers a reliable way to avoid the reduction in your college savings’ purchasing power over time due to tuition inflation. Additionally, because this is a prepaid tuition plan as opposed to a traditional investment, it is not subject to market risk. Also, you may change the account to another beneficiary who is an immediate family member.
Unlike many traditional 529, there are no fees associated with the plan. The participating colleges/universities cover all fees.
Weaknesses:
One drawback is contributions only cover tuition and “mandatory fees”, whereas other 529s cover education expenses more generally. Furthermore, the plan states in its disclosure that, “Mandatory Fees do not include the cost of books, supplies, room or board, even if these are required by the participating institution, nor does it cover those fees or costs that a particular participating institution specifically excludes from coverage.” This is significant, especially regarding room and board which can cost nearly as much as tuition, and on campus housing may be mandatory at some schools. To counteract this, one could open a traditional 529 to cover other education related expenses.
If the beneficiary does not go to a participating institution there are a couple of options.
- You may roll the plan over to a state-sponsored 529. In this case your tuition contributions will be subject to a maximum increase of 2% per year, and a maximum loss of 2% per year based off the trusts performance. The trust is managed by OFI Private Investments Inc.
- You may request a refund for your Tuition Certificates. Gains and losses are capped at +/- 2% annually, like the rollover. Unlike the rollover, any gains will be subject to federal income tax as well as an additional 10% tax penalty.
Due to the comparable tuition inflation at public universities of 3.2% on average beyond inflation, a rollover at 2% returns would result lost purchasing power. After taxes, a refund would have similar results as contributions would be unlikely to even beat general inflation.
Takeaways:
The Private College 529 Plan is an interesting alternative to traditional 529s. It is not a great tool for everyone when saving for college. However, under the right circumstances it could be a viable option.
If you are interested in learning more about this plan or seeing which schools participate in it, please check out their website. www.privatecollege529.com/OFI529/
Charlie Scott
Intern
9/12/18
