529 plans are a popular topic. It seems like everyone is making a grab for screen time by talking-up the merits of these tax favored vehicles. As of today, my Google Alerts account has archived 15 separate articles on this topic in just the past 3 days. All of these articles say the same thing. Save for college. Save on taxes. Do the right thing as a good parent and think about those kids! Oh, and don't worry about market risk or locking-up your money! Oh, and that 529 "might" affect your financial aid.
Reading all of this makes my blood boil. What so many families do not understand is that their 529 plan can destroy financial aid. Would you rather pay $30,000 a year for college on a tax favored basis or spend $20,000 a year and pay maybe $1500 in taxes for all 4-years of college? That's $40,000 in lost aid so we can save just a fraction in taxes. So many advisors miss the mark by focusing on the minor tax benefit but fail to see the financial aid that is hemorrhaging behind the scenes.
Just think about it. Families are required to disclose all 529 plan assets for all students in the household. Colleges can then use the total balance against the first student. What do you think will happen when you tell a college that you have set aside dollars just for them? So many advisors (with 529 plans to sell) rely on the 529 plans ability to make a minor dent on the EFC calculation to justify this ineffective strategy. Problem solved right? Wrong. What these advisors do not understand is that many colleges still calculate a reduction in aid based on your 529 plan, but do so behind the scenes.
An excerpt from savingforcollege.com states their take on 529 plans and financial aid, "Sound complicated? It is. And we are only talking about the federal financial aid rules here -- each school can (and most will) set its own rules when handing out its own need-based scholarships, and many schools are starting to adjust awards when they discover 529 accounts in the family."
Amy Feldman from Reuters also hits the mark in her 2013 article, "Don't let that 529 college plan hurt your financial aid." Amy states that "Schools may set their own rules on how to award need-based aid, so the reduction in aid for 529 plans varies, but could be as much as 25 percent of the value of the asset." So what does this mean? Take the value of your 529 plan, divide it by four, and subtract that amount from your aid package each year. Hey, at least you get to overpay for college on a tax favored basis! Not all colleges will treat your 529 plan this way but some colleges will. Why even take the chance? There are other more suitable strategies to help a family pay for college. You can also stay liquid and not worry about taking needless risks in the market.