Your 529 Plan Questions, Answered

The evolution of 529 college savings plans continues, but many of the same questions remain for people saving for education. We update this article every year to address some common questions on 529 plans.

We answer these nine questions:

• Why should I use a 529 plan?
• What counts as a “qualified education expense” for a 529 plan?
• What does a 529 plan investment menu look like?
• Can I use a 529 plan like a brokerage account?
• What fees do 529 plans charge?
• What are the cheapest 529 plans?
• Does using a 529 plan affect financial aid packages?
• Is it easy to withdraw funds from a 529 plan?
• What happens to my money in a 529 plan if it isn’t used?

Why Should I Use a 529 Plan?

A 529 savings plan offers a tax-advantaged way to pay for education. Federal and state-level tax breaks, deductions, and credits are available, depending on where you file your taxes.

At the federal level, your money invested through a 529 account grows tax-free, and you don’t pay capital gains taxes on your withdrawals if you use them for qualified education expenses.

In addition, many states offer additional tax benefits to residents that contribute to in-state plans. The benefits can come in the form of a tax deduction (subtracting your 529 contributions from your taxable income calculation) or tax credit (cash amount that you can use to offset your state income tax). Some states, such as Arizona, Kansas, and Maine, extend the tax benefits to contributions made to any 529 plan, not just the in-state option.

We recommend you consult with a tax specialist regarding your specific situation.

What Counts as a ‘Qualified Education Expense’ for a 529 Plan?

At the college level, qualified education expenses include tuition, fees, books, supplies (computers, for example), special needs equipment, and room and board if the student is enrolled at least part time.

Expenses outside of college can also be considered qualified education expenses. Tuition and fees for graduate school and trade school, for example, qualify. For K-12 schools (public, private, or religious), savers can claim tax benefits on up to $10,000 of contributions per year. Up to $10,000 can also be used for student loan repayments.

A full rundown of tax benefits for education savers can be found in the IRS’ Publication 970.

What Does a 529 Plan Investment Menu Look Like?

While specific line items can differ by state, all 529 plan menus share the same basic structure.

All plans provide an age-based or target-enrollment series for set-it-and-forget-it investors, which gradually reduces their exposure to risky assets (that is, stocks) during the accumulation period. These series can serve as a default choice for most investors, like a target-date series would for retirement savers.

For those who want to select their own investments, 529 plans also offer a menu of individual mutual funds. The lineup can include a balanced fund, an index-tracking fund, or more specialized products such as value, growth, or small-cap funds.

Finally, plans provide an FDIC-insured account or a stable-value account as their least risky option.

Can I Use a 529 Plan Like a Brokerage Account?

No. Unlike brokerage accounts, 529 plans generally do not provide the ability to purchase individual stocks. In fact, families cannot take an active or trading approach to these 529 accounts as investment changes are only allowed twice per calendar year. Contributions into the account are also invested in your preselected investment option once the check or bank transfer clears. It usually is not possible to deposit the money into a cash account and then decide when to invest.

If you live in a state that does not offer much in tax incentives, you may want to shop around to find a plan that provides options that best match your investment preferences. Some plans use only low-cost index funds for their age-based or target-enrollment series, but others employ a mix of actively and passively managed funds or focus solely on active underlying funds. Plans may even provide each of these different flavors to savers while following the same broad asset allocation. The static individual fund options also vary from plan to plan. Some offer a short list of index funds, while others provide a broad mix and include actively managed strategies from well-regarded fund families such as T. Rowe Price, American Funds, and Dimensional Fund Advisors.

What Fees Do 529 Plans Charge?

Setting aside minute differences, the cost to an investor will be the sum of the underlying funds’ expenses in the chosen portfolio and any potential management fees. Management fees pay for the state agency that administers the 529 plan and, in most cases, the outside firm that manages the portfolio. Additional fees may include a sales charge, for those who invest in a 529 plan through a financial advisor, and account maintenance fees that typically range from $0 to $25 a year.

What Are the Cheapest 529 Plans?

Currently, 15 plans earn a Morningstar Price Pillar rating of Low based on the average fee of their age-based or target-enrollment options. Many of these hold cheap index funds, and all 15 are plans that investors can buy directly from fund companies, as opposed to going through financial advisors. They also do not charge any additional account or maintenance fees.

There are valid reasons why investors choose advisor-sold 529 plans, such as when the state’s advisor-sold plan is better managed than its direct-sold plan, or if the investor seeks more actively managed funds, which advisor-sold plans tend to hold more of. However, investors should note that exposure to relatively expensive funds and the additional distribution fees lead to higher overall costs. In our ratings methodology, plans with low fees relative to peers are more attractive, as the hurdle to generating strong performance is reliably lower than more expensive peers.

The five cheapest 529 plans covered by Morningstar analysts are listed below. The average cost of each plan’s age-based or target-enrollment options sat at or below 0.12% as of October 2023.

• Florida 529 Savings Plan
• Georgia’s Path2College 529 Plan
• Michigan Education Savings Program
• South Carolina’s Future Scholar 529 (Direct)
• New York’s 529 Program (Direct)

Conversely, there are plans with relatively unattractive price tags that exceed 0.50% on average and can go as far up as 1.41%. These plans can charge high administrative fees and/or program management fees.

Does Using a 529 Plan Affect Financial Aid Packages?

Yes, though to a lesser degree than income does.

Federal financial aid is based on an estimate of what a family can contribute annually from their income and assets. Income is the largest portion of the expected family contribution, typically 25% to 35% of the parents’ adjusted available income, though it can go as high as 47%. Parental contribution from assets, including 529 account balances, is assessed at a much lower maximum of 5.64%. So, if a family has a 529 account with $10,000, this raises the expected family contribution by at most $564 and reduces the federal aid package by the same amount.

You should still consider a 529 plan if you are saving for future tuition and expenses. Aid packages typically include a loan component, so any savings that reduce the need for future loans benefit the student. Moreover, with changes to the federal student aid calculation starting in the 2024-25 academic year, assets in 529 accounts will be counted as parental assets only for the beneficiary of the account. That means if you have 529 accounts set up for your other children, the assets in those accounts are no longer counted toward the expected family contribution. Accounts owned by grandparents will also be excluded from calculating the federal financial aid.

Is It Easy to Withdraw Funds From a 529 Plan?

Yes. Accountholders can request a withdrawal to pay an educational institution or to reimburse themselves for a beneficiary’s qualified education expenses.

A request can be made online, by phone, or by mail, and payment is issued either via check or electronic bank transfer. Some plans also support auto pay. Many families pay tuition and fees first and then reimburse themselves from the 529 plan. Some states, such as Utah and Mississippi, offer prepaid debit cards that students can use for qualifying education expenses.

No documentation is needed for withdrawals, but it is important to keep records that prove that a withdrawal is qualified, in case of an audit. Also, withdrawals must occur in the same period that educational expenses are incurred. When withdrawals begin, the 529 plan administrator will send a 1099-Q form. If the distribution doesn’t exceed the amount of the student’s qualifying expenses, then accountholders do not have to report any of the distribution as income on their tax returns.

What Happens to My Money in a 529 Plan If It Isn’t Used?

If a beneficiary no longer needs the money in the account (by deciding not to go to school or by earning a generous scholarship, for example), the account owner can name a new qualified beneficiary without incurring federal or state income tax penalties. Qualified beneficiaries are members of the current beneficiary’s family, which includes siblings, children, nieces and nephews, their spouses, or a first cousin.

In addition, driven by the passage of the Secure 2.0 Act, beneficiaries with an account open for 15 years or more can transfer unused funds to their Roth IRA, allowing them to reposition the funds to another tax-advantaged vehicle. The ability to execute the conversion began in 2024 and is subject to Roth IRA contribution limits, in addition to other requirements.

Morningstar.com subscribers can access our 529 plan reports and ratings from the 529 Plan Center map.