A 529 plan is a tax-advantaged investment vehicle in the United States designed to encourage saving for the future higher education expenses of a designated beneficiary.

There are two types of 529 plans: prepaid and savings.

• Prepaid plans allow one to purchase tuition credits, at today's rates, to be used in the future. Therefore, performance is based upon tuition inflation.
• Savings plans are different in that all growth is based upon market performance of the underlying investments, which typically consist of mutual funds. Most 529 savings plans offer a variety of age-based asset allocation options where the underlying investments become more conservative as the beneficiary gets closer to college-age. They also offer risk-based asset allocation options where the underlying investments maintain the same equity-to-fixed-income ratio regardless of the age of the beneficiary. Many savings plans also offer a stable value or guaranteed option designed to protect an investor's principal while providing for some investment growth, while others offer investments in certificates of deposit.¹

Investing in a 529 plan may offer college savers special tax benefits. Earnings in 529 plans are not subject to federal tax, and in most cases, state tax, so long as you use withdrawals for eligible college expenses, such as tuition and room and board. (Some states allow contributions to 529s to be deducted from income for state tax purposes.)  However, if you withdraw money from a 529 plan and do not use it on an eligible college expense, you generally will be subject to income tax and an additional 10% federal tax penalty on earnings. Many states offer other benefits, such as matching grants, for investing in a 529 plan.²

Everyone is eligible to take advantage of a 529 plan, and the amounts you can put in are substantial (over $300,000 per beneficiary in many state plans). Generally, there are no income limitations or age restrictions.³

Size:

• Up to 2006: Surveys of state plans indicate that assets held in 529 college savings plans grew from about $200,000 in 1998 to $90.1 billion at the end of 2006. Assets in Section 529 savings plans grew about 31 percent in 2006, increasing from $68.7 billion at year-end 2005. The number of accounts rose to 7.2 million, and the average 529 savings plan account size was approximately $12,500.

• 2007: Financial Research Corp., a Boston consulting firm, projects that 529-savings-plan assets will grow about 27% this year (2007), to $112 billion.⁴

² http://www.sec.gov/investor/pubs/intro529.htm

³ http://en.wikipedia.org/wiki/529_plan

⁴ http://www.smartmoney.com/mag/index.cfm?story=march2007-529

• Management: Fidelity Investments took over the management of this 529 plan from TIAA-CREF in November 2006. 
• Eligibility: Individuals residing in the U.S. who have reached the age of majority, emancipated minors, UGMA/UTMA custodians, and legal entities; do not need to be CA state residents.
• Options: Choose between two age-based options, one invested in actively-managed mutual funds and the other invested in index mutual funds. Contributions are placed into the portfolio corresponding to the beneficiary’s age. The portfolios automatically shift to a more conservative investment allocation over time.  Or for static options, select among six multi-fund portfolios and six individual-fund portfolios (provided by Fidelity).
• SRI: Among the static portfolio options is a socially responsible investment option.
• Minimum contribution: With lump-sum contributions, the minimum initial contribution is $50, and the minimum subsequent contribution is $25. With the automatic contribution plan, the minimum contribution level is $15 per month or $45 per quarter. 

• Fees: 0.50% for the index fund options (fee includes underlying fund expenses); 0.30% for the actively managed fund options (fee does not include underlying fund expenses of 0.42% to 0.78%); 0.80% for the Social Choice Portfolio (fee includes underlying fund expenses); figures include 0.10% fee to the state.¹

¹ http://www.savingforcollege.com/compare_529_plans/index.php?page=select_plans

• Background: Requiring Louisiana residency to participate, this 529 savings program is subsidized by the state, resulting in no costs to the participant above the underlying fund costs. Vanguard funds and the State Treasurer's fixed income fund are utilized in the age-based and static portfolio options.
• Eligibility: U.S. citizens and resident aliens at least 18 years old, UGMA/UTMA custodians, and legal entities; must be LA residents to participate.
• Options: The Age-Based Option contains four portfolios of underlying mutual funds. Contributions are placed into the portfolio corresponding to the beneficiary’s age, and later reassigned to more conservative portfolios as the beneficiary approaches college age.  For static funds, select between the Louisiana Principal Protection Option (100% invested in the state-managed Fixed Earnings Fund), the Total Equity Option (100% invested in the Vanguard Total Stock Market Index Fund), the Equity Plus International Option (80% in Vanguard Total Stock Market Index Fund and 20% in Vanguard Total International Stock Index Fund), and other blends provided by Vanguard and the state treasurer.
• Minimum Contribution: $10
• Fees: None for the Fixed Earnings fund; approximately 0.25% - 0.26% for the Vanguard LifeStrategy funds; approximately 0.06% for the Vanguard Total Stock Market Index Fund Institutional Shares and 0.32% for the Vanguard Total International Stock Index Fund.
• Additional state incentives: The state provides an earnings enhancement equal to 2% to 14% (depending on income) of a Louisiana participant's contributions when the account is used for qualifying expenses.  Contributions to the Lousiana 529 plan of up to $2,400 per account per year for an individual taxpayer, and $4,800 per beneficiary per year for married taxpayers filing jointly, are deductible in computing Louisiana taxable income.¹

• Background: The largest and one of the oldest prepaid tuition plans in the country, this program is helping over one million Florida families save and lock in the future cost of tuition (and optionally, dormitory costs) at Florida public institutions. 
• Eligibility: The beneficiary or the parent/guardian must have been a Florida resident for the 12 months prior to enrollment. The beneficiary must be within the age/grade requirements for the selected plan. 
• Price: In the 2007-2008 enrollment, prices ranged from as little as $4,376 for a two-year community college contract for a newborn to as much as $41,991 for a four-year university contract, four-year fee plan, four-year tuition differential fee plan, and five-year dormitory contract for an eighth grader.
• Payment options: Lump sum, 55 monthly installments, or monthly installments until October of the scheduled college enrollment year.¹

Business model:

• The federal government forgoes tax revenue to provide an incentive for individuals to create savings accounts for a beneficiary’s education (usually used by parents or grandparents). 
• States charge fees to administer plans and thus divert some of the money given up by the federal government into state coffers. 
• Financial institutions partner with states, usually in exclusive-provider agreements, and thus also benefit from the tax breaks that generate additional fees from increased assets under management. 
• Individuals like 529s because of the tax incentives, high contribution limits, and lack of income requirements. 
• 529s are attractive to individuals and financial institutions in part because the inputs (principal) can be managed over a long period for a very specific and concrete outcome—education costs are relatively predictable in terms of timing and amount.

Assumptions:

1. 529 savings plans help people save more for education.  But sometimes states take advantage of the incentives federal tax breaks provide and charge high maintenance or administrative fees.  Because there are few choices in the plans and their financial services providers, some people end up paying more in fees than they would in taxes.¹  Some states have opened up the process of choosing a financial partner to a competitive bidding process.  Competition already has knocked down some of the higher costs. According to Financial Research, the underlying annual expenses for funds in 529 plans have fallen 31% from 2004 to 2007 to 0.74%.²
2. Tax breaks on earnings in plan will be permanent.  Only in 2006 did Congress make the tax breaks on 529s permanent, prompting many more people to sign up.
3. Expenses tied to account are inevitable and large (or predictable).  The savings plans allow account owners to switch beneficiaries, but if the withdrawals from the account are not used for education, they are subject to tax and a 10% penalty. 

¹ http://www.slate.com/id/2070062/; http://www.fool.com/personal-finance/general/2007/08/02/the-worst-529-plans.aspx

² http://www.smartmoney.com/mag/index.cfm?story=march2007-529

Anticipation of Out of Pocket Revenue and Expenses for Providers and Consumers

• Tax advantaged savings plans like the 529s offer a way for individuals to try to anticipate expenses and build assets over time to deal with them, assuming there is enough income, time, and will to do so before the costs hit (healthcare costs are not as predictable in timing and amounts as education costs).

Smoothing the vicissitudes of  individual financial context in the face of the cost of healthcare events

• Plans like 529s provide a tax-incentivized way to encourage people to smooth the peaks and troughs of changes in income and assets over their lifetime.

Balance of sharing risk at micro level while managing risk at macro level

• Tax advantaged savings plans like the 529s can help individuals handle the increased risk they are absorbing from employers and insurance companies.

Healthcare defined as a public good leading to new social contracts

• The federal government recognizes education as a public good and forgoes tax revenue to help individuals finance it.  Colleges and universities are selling tuition at current rates in part because of this viewpoint.  Seen as a common good, public scrutiny forced states (and eventually financial institutions) to lower fees.