Finding a way to pay for at least part of a child’s or grandchild’s college education is a goal of many parents and grandparents. Unfortunately, the fast rising costs of college can make achieving this goal difficult. According to finaid.org, college education expenses are inflating at an average of 8% per year1.
That relatively high rate of inflation can make it hard to get ahead. Using a 529 Savings Plan can help many families to save for college and receive Federal (and sometimes state) tax benefits for doing so.
For example, Indiana residents can receive a 20% state income tax credit on up to $5,000 in contributions to an IN CollegeChoice 529 Savings Plan. This means that you could have $1,000 knocked off of your state tax bill for helping someone save for college, in addition to tax-free investment growth and tax-free withdrawals if the funds are used to pay for qualified education expenses.
When it comes to setting up a 529 plan you have two options: a Direct Savings Plan or an Advisor Savings Plan. While it seems like it would make sense to setup an Advisor 529 Savings Plan through your financial advisor, there are significant costs to doing so and limited benefits.
Here are 5 reasons why you should not use an Advisor 529 Savings Plan.
1. High Up-Front Sales Charges
Whenever I have seen a 529 Savings Plan that was setup by an advisor the contributions have been going into Class A investments, which means that up-front fees are charged. You can see in the CollegeChoice Advisor 529 Savings Plan Disclosure Statement Supplement Dated June 2019 that the maximum initial sales charge ranges from 3.75%-5.25%, with most of the investments being charged the 5.25% fee. (These fees can decrease as your assets reach certain levels).
If you have an Advisor 529 plan, then you’re having an average of 4.5% of your contributions skimmed off the top before any of that money has been put to work for the account’s beneficiary. For each $100 you contribute to the plan, $95.50 is invested and $4.50 is taken off of the top as a fee.
That fee of $4.50 might not seem like much. Consider the long-term impact of this up-front fee if you planned to contribute $5,000 to a 529 each year for 18 years. The 4.5% up-front fee on $5,000 would be $225 per year, which still may not seem like it’s breaking the bank. However, if that $225 were to be invested each year over an 18 year period earning 5% annually, then there would be an extra $6,330 in the account when the beneficiary is ready for college.
2. Additional Annual Fees
In addition to the up-front sales charge of 3.75%-5.25%, the Disclosure Statement for the Advisor 529 Savings Plan shows that there are many other fees charged on these accounts.
In addition to the up-front sales charge, you can expect to pay:
Class A Shares
- Annual Account Maintenance Fee = $20
- Estimated Underlying Investment Expenses = .02%-.81%
- Program Management Fee = .31%
- Distribution & Marketing Fee = .25%
- State Administration Fee = .10%
Total Annual Asset-Based Fee = .68%-1.47%
Class C Shares do not have the up-front sales charges, but they have higher annual fees which can actually end up being more over time than the up-front expenses on the A shares.
Class C Shares
- Annual Account Maintenance Fee = $20
- Estimated Underlying Investment Expenses = .02%-.81%
- Program Management Fee = .31%
- Distribution & Marketing Fee = 1.00%
- State Administration Fee = .10%
Total Annual Asset-Based Fee = 1.43%-2.22%
The amazing thing to me is that the CollegeChoice Advisor 529 Savings Plan website’s Costs and Contributions page states that the plan’s “costs are comparatively low.” I’m not sure what they’re comparing this to because these fees are extremely high compared to opening a self-directed 529.
All you have to do is compare the fees above to the Indiana CollegeChoice Direct total annual asset-based fees of 0.14%-0.77% to see that these costs are not comparatively low2.
3. Limited Investment Options
The Disclosure Statement also shows the limited investment options that are available within a 529 plan. There are three different investment options within these accounts: Year of Enrollment Portfolios, Individual Portfolios, and Savings Portfolios.
The Year of Enrollment Portfolios are similar to target-date mutual funds in that a portfolio manager manages the asset allocation and gradually shifts it towards a more conservative approach as the beneficiary nears college age (AKA the year of enrollment). This is a hands-off approach that many people use in their 401(k)s (target-date funds) and in 529 plans (year of enrollment portfolios).
Individual Portfolios within a 529 plan are mutual funds that are available to invest in within the account. Currently, there are 11 mutual funds available within the Advisor 529 savings plan, giving the advisor limited investment options to choose from. Using the individual portfolios would provide the most flexibility to create an asset allocation which is different than the year of enrollment portfolio funds. However, many of the individual portfolio funds are much more expensive to invest in than the year of enrollment funds.
Savings Portfolios are invested in a high-yield savings account (HYSA). You might as well open a HYSA by yourself and put the money into it rather than pay someone for having your money sitting in cash until the beneficiary reaches college age.
4. Little to No Value Added by the Advisor
Given that there is such a limited number of assets to choose from within a 529 savings plan, there is inherently little to no value added by an advisor on the account. Typically, a financial advisor can add value to an investment account by selecting investments (in this case, mutual funds) which they believe will perform well in the future, keeping fund fees low, and creating an appropriate portfolio allocation, among other things.
Investing money in a Year of Enrollment portfolio means that the advisor will be hands-off since the fund is setup to manage itself and adjust along the way. Additionally, there is no valued added from an advisor by directing someone to keep their college savings in a HYSA.
Creating an asset allocation using the Individual Portfolios option within the 529 plan would be the most justifiable way for a financial advisor to add value to the account. However, as I mentioned above, the underlying fees on the Individual Portfolios options are higher than the Year of Enrollment portfolios. This means that the advisor would have to hope that the asset allocation he or she chose using the 11 Individual Portfolios would outperform the Year of Enrollment Options and justify the higher fees.
5. Simple to Open & Direct Yourself
It’s simple and easy to open a CollegeChoice 529 Direct Savings Plan and is much more cost effective than opening a 529 through a financial advisor. When you open an account online you’ll be guided step-by-step and you can even see what information you’ll need before doing so by taking a look at the Enrollment Form beforehand.
When it comes to selecting the investment option you can make it easy on yourself and choose the Year of Enrollment Portfolio that is closest to your beneficiary’s timeline, knowing that the portfolio will be managed for you and will become more conservative as the beneficiary ages and the need to use the money nears. Make a Year of Enrollment Portfolio choice and let it do what it’s designed to do.
