What Is a Pre-Paid College Tuition 529 Plan and Is It Right for Me?

For those of us who have children, just thinking about putting them through four years of college can feel overwhelming. In the United States, the cost of college tuition is higher than almost anywhere else in the world. And it keeps rising every year!

According to a survey from the College Board (the company that administers the SAT), the 2020 estimated annual cost was $10,560 for in-state tuition for a four-year public university and $37,650 for tuition at a private university. It costs approximately $284,570 (factoring in inflation) for two married parents with middle-class incomes to raise one child (born in 2015) to age 17, not including college costs. It’s understandable that you may find paying for college to be a challenge without assistance.

What Is a Pre-Paid College Tuition 529 Plan?

If you’re thinking about saving for college, you may have heard of a traditional 529 plan. A traditional 529 plan is an investment savings plan in which you can save money to pay for your child’s college tuition. All 50 states and some private institutions offer 529 plans. The money that you save is invested so that you can grow your account balance faster than you would in a traditional savings account.

As an alternative, you can also save for college tuition in the Pre-Paid Tuition 529 Plan. The Pre-Paid Tuition 529 Plan is an option that public universities in nine participating states and some private universities offer. It allows you to “lock in” the cost of college tuition at today’s prices. Basically, you save in the same way that you would with a traditional 529 plan or a savings account. However, your total college tuition costs are frozen in advance. That means you don’t have to worry about whether your savings will be enough when it’s time to pay.

Benefits of a Pre-Paid Tuition 529 Plan

  • No Price Surprises. The price of tuition is written into the contract when you sign up for the plan. The price does not increase.
  • Tax-Free Contributions. For 2021, you can contribute up to $15,000 annually per individual without triggering the gift tax.
  • Tax-Free Withdrawals. Similar to the traditional 529 plan, the money you save will grow tax-free. You can withdraw it tax-free to pay for college tuition.
  • Favorable Treatment for Federal Financial Aid. A 529 Pre-Paid Tuition Plan account owned by a parent is considered a parent asset. Only 5.64% of total parent financial assets are counted toward federal aid versus 20% of student-owned assets.
  • No Restrictions for Other Colleges. If you decide not to apply to the college that is sponsoring the Pre-Paid Tuition, you can move the money in your account to any other school you choose. Just be aware that what you have saved in your account is not guaranteed to cover the full cost of any other college.

Disadvantages of a Pre-Paid Tuition 529 Plan

  • Account Withdrawal Restrictions. Unlike the traditional 529 plan, you can only use tax-free withdrawals to pay for tuition costs. Withdrawals made to pay for other college expenses, like room and board or books, may be taxed.
  • Residency Requirement. You must be a resident of the specific state where the public university that offers the Pre-Paid Tuition Plan is located. Pre-Paid Tuition Plans offered by private universities, on the other hand, are open to all US residents.
  • Investment Earnings Restrictions. If you choose to attend a school other than the school that the Pre-Paid Tuition Plan is attached to, you may not be able to transfer all of the investment earnings you have in your account.
  • Plan Open Enrollment. not all plans have open enrollment year-round. Some plans allow enrollment of new accounts only at specified times.

Before you sign up for a Pre-Paid Tuition 529 Plan, do your homework. Read the plan details carefully to be sure that you understand what it offers and what you’re committing to.

If you and your student know in advance that you will be applying to a specific school and want to avoid some of the sticker shock of the rising costs of college tuition, then a Pre-Paid Tuition 529 Plan may be the right tool for you.