The number 529 refers to the section of the Internal Revenue Code that allows these tax-advantaged plans. It also has inspired states and others to promote 529 College Savings Day on May 29. In recognition of that, here are four reasons why 529 plans are worth considering for your education savings needs.
1. There Are Great Tax Advantages
Ordinarily, when you save money for a long-term financial goal, you have to pay taxes on the investment income it generates. Further, when you sell your investments in order to raise cash to make payments, you'll typically owe even more tax on the capital gains on those investments.
Investments in 529 plans, however, build up on a tax-deferred basis, meaning that even if the investments you select pay interest, dividends or other forms of income, you won't have an immediate tax bill. More importantly, if you use 529 plan money for qualifying educational expenses -- including tuition, required fees, and even room and board for those students who are enrolled at least half-time in college -- then those withdrawals become tax-free. The earlier you start saving for college, the more those tax advantages add up.
2. You Can Make Huge Contributions
Some options for college savings have very limited contribution limits. For instance, Coverdell Education Savings Accounts have many of the same tax advantages as 529 plans, but they only allow you to contribute $2,000 annually toward a child's college education.
Limits for most 529 plans, however, are much higher. Each state's plan has a different maximum account value, from around $235,000 to as high as $400,000. That gives most families all the flexibility they need to save for their children's college education.
3. They Have Financial Aid Advantages
Many parents neglect to consider the impact of their savings decisions on financial aid awards. For instance, if you open a custodial account in your child's name, those assets are considered the property of the child, and financial aid awards will take a greater percentage of those assets into account, potentially lowering how much aid you get .
By contrast, even though 529 plans are held for a specific student beneficiary, they're treated for financial aid purposes as property of the parent as long as the parent is the named owner of the 529 plan account. A much smaller percentage of parents' property is included in the expected family contribution toward college costs, and so using 529 plans wisely can boost your financial aid.
4. They've Gotten Better -- And Cheaper
Over the years, 529 plans have evolved. In the past, limited investment options with high fees made 529 plans a somewhat less attractive option.
It's important to remember that there's no requirement that you use the 529 plan that your own state offers. In some cases, your state will offer state-tax incentives to participate. But it's often worth looking outside your home state for the best deal.
You can follow Motley Fool contributor Dan Caplinger on Twitter @DanCaplinger or on Google Plus.