Smart College Savings

The Best and The Worst 529 Plans

Not two 529 plans are identical. In fact, the difference between the best and the worst 529 plans can be huge. While you may be able to deduct state tax by investing in your home state's 529 plan, the high fees in a bad plan can quickly wipe out any tax savings you achieved, and more. Here comes the WSJ's report on a recent Morningstar research of 529 plan options.

Another factor that helps lift 529s to the top rankings is whether a plan includes enough investment options for investors to build a well-rounded portfolio. Also among the winning 529s are plans sponsored by Nebraska and Colorado. And new to the list this year is the Maryland College Investment Plan.

On the flip side, one of Alabama's broker-sold 529 plans turns up on Morningstar's worst list for the third year in a row, for what the firm calls the plan's high costs and lackluster set of options. Also on the worst list are Nebraska's AIM College Savings Plan, making a repeat performance, and broker-sold offerings from Alaska, Missouri and West Virginia.

Congress gave a big boost to 529s last year by making permanent the plans' federal tax breaks, which had been set to expire at the end of 2010. Investments in the plans jumped in recent months, lifting total assets to over $90 billion at the end of 2006, according to Financial Research Corp.

With 529 plans, investors deposit after-tax income into an account that typically carries a range of investment options, usually mutual funds. Distributions aren't subject to federal income tax, as long as the money is used to pay for higher education. Competition among plans has prompted states and plan managers in recent years to cut fees and sweeten state tax breaks.

In selecting a 529 plan, investors should consider a number of factors. Foremost, you should check whether your own state's plan offers a tax deduction for contributions, which can raise the appeal of investing close to home. But the benefits of such a deduction can be reduced if a plan's total costs, including management fees and any broker commissions, are relatively high. What's more, a state tax deduction might be less meaningful if the state's tax rate is low.