529 vs. the Florida Prepaid Plan? Make an Educated Decision

Very few people will dispute the benefits of a college education. But rising tuition costs often seem formidable no matter how early you start. According to the College Board, the average cost of tuition and fees for the 2015-2016 school year for public four-year universities – often considered to be the most financially attainable of institutions – was $9,410. That prices a four-year degree at nearly $40,000 before room, board, books and fees kick in. (If your child wants to go to a private school, those numbers jump to $32,000 and $125,000 respectively.)

Thankfully, the last 20 years have brought about more ways than ever to save for college, including two of the most popular methods: 529 plans and prepaid tuition plans. When considering these particular options, the one you choose depends upon your needs, financial abilities, educational/career plans and other factors.

The 529 Plan – Flexible Tax-Free Savings

A 529 plan is a savings plan that allows you to set aside funds for future education costs. The funds you contribute are invested so that the plan grows over time not only through those contributions, but through investment returns as well.

Most 529 plans are issued by states, although there are some operated by educational institutions or other organizations. Florida offers a 529 through its Prepaid College Board that includes 11 investment options that vary in aggressiveness. However, you can enroll in any state’s 529 regardless of where you live or the state where your beneficiary wishes to attend college. This becomes especially helpful when you look at plans from states with higher income taxes, including New York and Utah; such plans are often a great option because they have higher enrollments and more competitive investments. When enrolling in state sponsored plans, you also need to keep track of which plan you’re using since some states have more than one.

Anyone can open a 529 plan for a child – a parent, relative or family friend. This can be a great option if family would like to contribute to future education in lieu of gifts for birthdays or holidays. Contributions are not federal tax deductible, although if you live in a state that levies an income tax, you can often deduct your contributions on your state return. However, the plan’s investment earnings are not subject to annual federal taxes, and the money is not taxed when it is withdrawn to use for college-related expenses. A lot of purchases fall under that category for a 529:
• Tuition and fees
• Books
• Some housing and food expenses
• Technology costs (computers, necessary
technology equipment, internet access)
• Special needs equipment

If you take out funds for non-eligible purposes, however, you’ll face a 10% withdrawal penalty plus taxes on the earnings of your plan (your contributions themselves are not subject to this penalty or tax). There are exceptions to this rule, including if the beneficiary dies or becomes disabled, attends a U.S. military academy, or receives a scholarship. In these cases, the earnings will simply be subject to your regular income tax rate. And if some of the funds go unused, they can be kept in the account for future educational use (or the beneficiary can be changed to another qualifying family member).

There is no maximum income to start a plan and receive the relevant tax breaks. There are, however, limits to your yearly contributions. Maximum amounts are determined by the state or entity operating the plan. If you wish to avoid federal gift taxes, federal law allows for up to $14,000 in contributions each year for single taxpayers or a lump sum of $70,000 to cover five years (double those amounts for married couples).

529 plans are great if you want flexibility in when, where and how the money is used. However, because they’re investment-based, they are subject to market fluctuations and other factors that affect portfolio performance. So it’s best to start a 529 as early as possible to allow big hits on the plan to be absorbed over time. In general, the closer to the need for the assets, the less advantageous a 529 plan can be. When comparing plans, look at the investment options offered by each and consider their past performance, fund expense ratios and asset allocations. Since investment returns are a key factor in how much money you’ll have available when it’s time to use it, you’ll want a plan with consistently good results. We recommend looking into annual ratings of the state sponsored alternatives prior to choosing a plan.

You should also compare fees, which are typically required not only to open a plan, but to maintain the account as well. These are in addition to any fees incurred by the investments within the plan. Finally, check for any additional restrictions imposed on individual plans that differ from the usual practice with 529 plans.

Florida Prepaid Plans – Making Time Stand Still for Tuition

Unlike a 529 plan, a Florida prepaid tuition plan locks in the price of tuition at the time of enrollment. There are no investments involved on your end; you simply make pre-determined payments based upon the current price of tuition, projected increases in that price over time, and your frequency of payments (options include a onetime lump sum, monthly payments for 55 months, or monthly payments until your child enters college). When the beneficiary of a prepaid plan starts college, his or her plan is worth a set number of credit hours regardless of how much the price of tuition has increased since the child was enrolled.

This “price lock” aspect of the prepaid plan is its biggest benefit. According to financial aid website FinAid.org, tuition increases at American universities at an average of 8% per year; at that rate, a child born this year will face college costs more than three times the amount they are now. It can be tough for return rates on 529s and other investment-based plans to keep up with that kind of tuition inflation. Locking in college prices now takes the “how much will be enough?” guesswork out of the equation.

Another aspect of the Florida Prepaid Plan’s stability is that it is not subject to changes in the market (since they’re not investment-based). In 2008 many people saw their 529s plummet in value due to that year’s recession; this will not happen with a prepaid plan. Florida’s prepaid plans are also guaranteed, meaning that even if there is a budget shortfall, you are assured that your funds will be there when you need them.

The prepaid plans have also widened their offerings since their inception. While they traditionally cover only tuition, they now offer separate plans to cover dormitory expenses and fees above tuition. They also have options for alternative educational paths; for example, the two-year plan is geared toward those interested in attending a Florida state college (that’s what they now call community colleges). or trade school instead of a standard four-year university. There is also the 2+2 plan, which covers two years at a college and two at a state university.

While Florida’s prepaid programs make planning for college easy and straightforward, they also come with a big restriction that does not apply to a 529. Prepaid plans are applicable to Florida’s public university system – meaning that their full value can only be used at the public colleges and universities in Florida. There are agreements with private schools in Florida and other institutions throughout the country that allow you to use your plan, but they generally don’t cover the full higher tuition of a private institution. This can put you on the hook for a lot more tuition than the plan would cover at a state college or university. For example:

Jimmy’s parents set up a Florida prepaid plan, and he is set to start college in the fall of 2017. Tuition for Florida’s public universities is roughly $6,500/year, so that is how much his tuition plan will cover. However, Jimmy wants to go to an out-of-state university that charges $20,000/year. His plan is accepted at this other school and will still cover $6,500/year, but Jimmy and his parents have to find another way to pay the $13,500 yearly balance.

If your child decides not to use the plan and you have no eligible student to whom it could be transferred, you do not receive any interest on the money you have paid (although you would still receive a refund on your contributions themselves not subject to market fluctuations, which could be good or bad). There are also time limits on using a Florida prepaid plan; the funds must be used within 10 years of the child’s projected college enrollment year selected on his/her application.

A Florida prepaid plan is an ideal choice if you want to simplify the process of saving for college if you’re willing to work with the added restrictions. By freezing the price of tuition (and possibly other college-related expenses), you remove the uncertainty of the market from the planning process. Be sure to look at all of the options on the Florida Prepaid College Board website to choose one that fits both your beneficiary’s plans and your budget.

No single college savings strategy is right for everyone. By taking an honest look at what you can afford at the present time and what your beneficiary’s needs might be down the road, you’ll make the most educated decision on securing your child’s future.

All content provided in this article is for informational purposes only. Matters discussed in this article are subject to change. For up-to-date information on this subject please contact a James Moore professional. James Moore will not be held responsible for any claim, loss, damage or inconvenience caused as a result of any information within these pages or any information accessed through this site.