Picking the best 529 College Savings Plan

As I mentioned in an earlier post, my wife and I were blessed with the birth of our second son eleven days ago. Believe it or not, my mind has already turned to the topic of college savings for our children, and I thought I’d share my research to date on the subject.

If you are not familar with 529 plans, you can think of them as 401k plans, but for college savings. They are an outgrowth of the original state-based, pre-paid tuition plans, which have since been adapted to become generic savings vehicles for college with significant tax advantages. There are other vehicles available, but none offer the combination of significant savings limits, tax benefits, college financial aid benefits, and control that the 529 plans offer.

Almost every personal finance journal now does annual reviews of each state-based 529 plan. Here is a great one from Money magazine that reviews them state-by-state.

When choosing a 529 plan, it is worth keeping the following things in mind:

  1. You do not need to choose the plan from your state. This is really important, because some of the state plans are terrible, with high expenses and poor fund choices. The ability to pick any state plan is a really great option for investors – imagine if you could pick among not just your company’s 401k plan, but the 401k plan from any company!
  2. Check to see if your state offers you tax advantages. Some states allow you to deduct 529 contributions from your state taxes. I live in California, which despite having a sky-high income tax rate, does not let you deduct anything. This is important, however, because in states with tax benefits, it might be worth sticking with the in-state plan.
  3. You can open one for almost any family member. Most people think about college savings only for their children, but 529 plans can actually be opened for anyone under 30. The whole point is that the person who opens the plan controls the money, but it only has tax advantages if used towards the college education of a person under 30.
  4. You are not locked in! You can actually change dependents on a plan once a year, and change state plans once a year. Don’t let the complexity stop you from opening a plan as soon as possible. It is very easy to change. Interestingly, you can use this ability to open a plan for your unborn children! Just open a plan for someone else, and once your children are born, switch the plan to them. A great way to get more than 18 years of compounded interest towards saving for college.
  5. The sooner you start the better. In the past 20 years, college tuition rates have grown at a compounded rate of 8%. The only way you are going to keep up with that type of growth is to save early, save often, and use the high expected return of investments like stocks to meet your targets. Compounding works best the earlier you start. The money you contribute in years 0-4 is likely 2-4x more valuable than the money you contribute in years 14-18.
  6. Expense ratios matter! Expense ratios are your enemy. This is money that is taken out of your investments, regardless of your return. A difference of 0.5% might seem small, but on $10,000 that is a loss of $4377 over 18 years. That’s real money. 529 plans often charge fees three different ways: on the funds, on the plan, and for the fund management firm.
  7. Save big dollars like a 401K, but withdraw tax-free like a Roth IRA! 529 plans really are the best of both worlds. You can contribute up to $12,000 per year (with a special $60,000 if you want to bundle 5 years of contributions at once). But if you use the withdrawals for qualified education expenses, you will pay zero tax on the earnings. So this isn’t tax-deferred saving… this is truly tax-free saving on all gains in the account. More details on this site.
  8. Save for retirement first. You can borrow money for college, but you cannot borrow money for retirement. College savings plans should only be put in place once your retirement savings plan is in place.

More tips from Money magazine and SmartMoney magazine are available.

When my son Jacob was born two years ago, I decided to open a Nevada 529 plan through Vanguard. Vanguard is known for its history of running low cost index funds, and for its tireless advocacy for investor rights. Vanguard actually runs plans for 13 different states, but the Nevada plan is the one that is fully integrated with Vanguard, which is an added bonus if you have retirement accounts with Vanguard (I do).

The expense ratios for the Nevada plan are good – depending on the fund, anywhere from 0.6% – 0.8% total. They also have a wide selection of investment choices.

However, last year I was disappointed to find out that Utah has an even cheaper plan run by Vanguard, with expense ratios closer to 0.4%. Of course, Utah charges a $25/year fee for out-of-state investors, but still, I started to think about moving Jacob’s plan over.

Then, yesterday, I get this letter from Vanguard. Given their commitment to low fees, they have reduced the expense ratios on the Nevada plan to 0.5% – 0.7%, still with no annual fee.

This is why I love to do business with firms like Vanguard. Their entire marketing message and differentiation is low fees. Like a company that always raises dividends on their stock, I firmly believe Vanguard is always working to lower the prices of their investment alternatives. They are like Wal-Mart for saving.

So, I’m sticking with the Nevada plan, and I’ll be opening one up for Joseph just as soon as I get his Social Security number. If you are interested in researching plans, CNN Money has a great set of recommendations (Utah, Nevada & Michigan top their list).

Update (1/21/2007): I’ve posted a new article on how to take advantage of the ability to change beneficiaries for 529 plans. Check it out.

The Robots Have Spoken: Humans Taste Like Pigs

A slightly unnerving article on Good Morning Silicon Valley tonight:

Doesn’t this violate one of Asimov’s Three Laws of Robotics?

The news comes from Japan, where a robot built to detect smell and taste also evaluated the taste of the reporters covering the story.  Apparently the writer “tasted” like prosciutto and the cameraman like bacon.

It is going to be very interesting over the next twenty years as we learn to view humanity through the eyes of our non-human creations.  Despite Asimov’s best intention, they will likely not be bound by our explicit or implicit moral codes or societal norms.  At least, not completely.  We are are immensely biased and subjective when evaluating ourselves – it will likely be quite illuminating to start learning about ourselves from non-human sources.

Then again, maybe it’s just because I saw this news on Friday, the night Battlestar Galactica airs, and I’m a little sensitive to the idea that machines might decide that they like the taste of bacon.  BTW If you are not watching Battlestar Galactica, you are missing one of the best shows on television.

Personal Note: Jacob & Joseph

If you read the “About this blog…,” you’ll see that I promised that this was my personal blog. What that means is that readers need to expect to put up with a certain amount of the typical “baby pictures” and “book reviews” posts.

So far, I’ve been really good about this, but I’m about to write a post about picking college savings plans, and I realized I’ve never posted anything about my children. This is particularly problematic since my wife and I were blessed with the birth of our second son less than two weeks ago, on October 30.

So, without further ado, here are my top two priorities, in order of age:

Jacob with Pumpkin
Jacob Monroe Nash, with a pumpkin for Halloween


Joseph Isaac Nash
Joseph Isaac Nash, resting at one week old