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Investors buy certificates that represent a different percentage of tuition, depending on the school. The same certificate might pay for 50% of the tuition at a less expensive school, for example, but only 20% of the tuition at a pricier college.
If your student doesn't enroll in a covered school
There are provisions if your child doesn't go to one of the covered schools. The state-run plans typically determine how much tuition your investment would buy, on average, at an in-state school. They give you that refund in cash, minus any administrative fees.The private plan refunds an amount equal to your original investment, adjusted by the performance of the trust in which the money is invested. That adjustment is limited to a maximum annualized gain or loss of 2%.
Here are some other key points about prepaid plans:
- State plans may have a residency requirement. Typically, state plans require that either the account owner or the beneficiary -- the kid who'll be using the money -- be a state resident. (The private plan has no residency requirement.) If your family moves out of state, you'll still be able to use the money at an in-state institution, but you may be responsible for any nonresident tuition or fees that the school charges your child.
- Not all states offer prepaid plans. Some that do are closed to new investment. Other states offer a guaranteed investment option as part of their college savings plan: Investments in the plan are guaranteed to keep pace with tuition. Scout state plans at CollegeSavings.org.
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- You can transfer the money. In addition to refunds, you're allowed to transfer your prepaid plan balance to another 529 plan, including another state's prepaid tuition or college savings program. That allows you to preserve the tax advantages.
- There's no guarantee a plan will be around when you need it. The conditions under which a prepaid tuition plan would be most useful are also the conditions that threaten the plans' survival. Earlier this decade, many prepaid plans got hit with a one-two punch: a recession that strangled the states' budgets also resulted in lower investment returns in the prepaid tuition plans. The shortfalls caused plans in some states to close enrollment to new participants or to close permanently. Our recent economic freefall is likely to inflict this same sort of damage.
A closure or even a shutdown doesn't mean you would lose money. Most likely, a state that ends its plan will still honor the tuition blocks purchased by participants. At worst, you would get a refund. But you'll want to monitor your plan's health and have a Plan B in case its finances get shaky.
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Updated May 20, 2009
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