By Bob Cole, President/CEO, Private College 529 Plan
March 3, 2020
Many families who are saving for college are aware that there are two kinds of 529 plans – savings plans and prepaid tuition. Each has a role in helping families plan and save for college, so which to choose? Both, actually.
To define the terms, 529 savings plans are investment accounts that a family hopes will grow with market-based returns to pay for college. Prepaid 529 plans enable families to lock in tuition now and avoid worry about investments or future tuition increases.
529 plans are everywhere, but for families whose children plan to attend a state university, prepaid plans now are only available in 10 states. (Other states operate prepaid plans, but they no longer accept new accounts.) The prepaid offering of nearly 300 private colleges, Private College 529 Plan, is accessible in any state.
At a superficial glance, prepaid plans seem limited, but I was intrigued to read research by Brian Boswell, the 529 Expert, who found that a mix of both prepaid and 529 plans increased the return of a portfolio, factoring in risk management. That assumes the student uses the prepaid plan to redeem tuition at a school in the plan. We asked Brian to conduct some follow-up research to suggest an ideal mix between the two types.
Boswell analyzed 114 model portfolio combinations of prepaid and savings plans looking back through two time periods, 1976-2018 and 1997-2018. Those periods allow for a long timeframe to measure, mimic the returns and price changes since 529 plans began in 1996, and represent a 22-year savings period from birth to college graduation.
Boswell noted that throughout those 114 combinations, the more prepaid tuition that was added to the mix, the better the results. It is important to point out that the actual numeric returns weren’t always higher, but risk-adjusted returns.
Think about it. When you are deciding what stocks or bonds or mutual funds to invest in, you don’t just go for the most wildly aggressive security. You balance how much you hope to gain against how much you fear losing.
Boswell notes: “In fact, data would suggest an optimal investment portfolio include 50% or more of assets in prepaids to optimize overall risk-return characteristics.”
He adds that even the numeric return of prepaid plans beat that of all but the most aggressive savings portfolios during the time-frames measured.
The underlying reason for the performance of the prepaid portfolios is because their “returns” are linked to actual tuition increases of public and private colleges. They are not correlated with investment market returns as savings plans are. That’s why prepaid plans are attractive to families that want to reduce risk of tuition increases in their college savings.
For families thinking about the best ways to save for college, it’s important to keep all the options in mind … and consider the numbers!
Read the original 529 Expert research.
About the Author
Bob Cole is President/CEO of Private College 529 Plan, a prepaid tuition plan operated by nearly 300 private colleges and universities across the nation.