A 529 Plan is a popular savings vehicle for a college education, and with good reason: they offer flexibility and decent tax breaks in a relatively simple package. But when it comes time to invest your 529 Plan, it’s easy to get tripped up.
Should you invest in your state’s 529 plan?
The beauty of a 529 plan is that you’re not stuck with your own state’s version. However, that also tends to complicate things. You’re faced with many more options, all of them carrying pros and cons that you have to weigh.
Ask yourself these questions to clarify:
- Does your state offer tax benefits for enrolling in its own 529 plan? Not all states do. Some states, like Kentucky and North Carolina, don’t offer tax breaks for their own 529 plans. That means you’re free to choose whichever state plan you like best. But states like Illinois, Michigan and Idaho do offer benefits for choosing their own state plan. If that’s the case, carefully look into which benefits you’d be receiving. The benefits of your own state plan might outweigh any other state plans you were looking into.
- Does the state tax benefit only apply to in-state contributions? Some states do offer tax benefits even if you don’t opt for your own state’s 529 plan. States like Missouri, Minnesota and Arizona give you a state tax deduction for investing in any state’s 529 plan.
- Does your state have an income tax? If your state doesn’t have an income tax, you won’t have an option for 529 plan tax deductions.
- Does your state have other incentivizing programs in place? Some states, like New York, offer a credit of up to $10,000 (for filing jointly) if you invest in the in-state 529 program.
This table does a good job of illustrating the tax benefits of each state’s 529 plan.
Once you’ve picked which state’s plan you’re going to choose, your next step will be selecting how to set up your 529 portfolio. There are three main paths for this: age-based portfolios, static portfolios and individual portfolios.
Age-based portfolios are the set it and forget it choice. Asset allocations are automatic, and adjust as your child ages. The younger they are when you open the account, the riskier the investments (like stocks.) The closer they get to college age, the investments shift to more conservative (like bonds.) But there are still options within the age-based selection, so you can choose funds that are more or less aggressive. Many people go with this option because it’s simple, and they prefer a hands-off approach.
Static portfolios are a set investment mix that will remain the same unless the plan owner changes it manually. Within this group, you will usually see a target risk portfolio. Target risk is just what it sounds like. It chooses a certain level of risk, or is based off of income, and uses that target to grow.
Individual portfolios are for the seasoned investor who wants to be more involved with their 529 plan portfolio. These investments use a mutual fund, exchange-traded fund or other individual investments as their investment strategy. If you choose this method, don’t forget to rebalance annually. Otherwise, your investments mix could lean too heavily toward risky or conservative buckets.
So which is the right choice for you?
Selecting Your 529 Investment
One of the most important considerations for your 529 investments is the age of your child. If you have more than five years before your student heads off to college, you might want to mix in higher risk investments to grow that money more. These would include stocks or equity.
But if your child is already in his teen years, shifting your focus to mostly bonds will protect your investment as he gets closer to graduating high school.
The earlier you start saving for your child’s education, the longer you will have for the compounding to make a significant difference. Start early, avoid taking on too little risk, and know whether you want to be hands-off or involved in the investment decisions. Those basic factors will help you grow an education fund for your child that will be a huge help when tuition bills start coming.
About Your Richest Life
At Your Richest Life, Katie Brewer, CFP®, believes you too should have access to financial resources and fee-only financial planning. For more information on the services offered, contact Katie today.