529 plans and funding college

A 529 plan is a state-sponsored savings account for education expenses. Contributions grow tax-free and withdrawals are tax-free when used for qualified education costs. It's the best purpose-built tool for college savings — but it's also widely misunderstood.

How it works

• You open a 529 in any state (you don't have to use your own state's plan, though some states offer a tax deduction only for their own).
• You name a beneficiary — usually your child.
• You invest the balance, typically in age-based portfolios that get more conservative as college approaches.
• Qualified expenses: tuition, fees, books, room and board for college. K-12 tuition up to $10k/year. Apprenticeships. Student loan payments (up to $10k lifetime).

The 2024 rule change: Roth rollover

Starting in 2024, if your kid gets a scholarship or doesn't use the full 529, you can roll up to $35,000 (lifetime) from the 529 to a Roth IRA in the beneficiary's name, subject to annual Roth contribution limits. This dramatically reduced the 'what if I overfund?' risk that used to plague 529s.

How much to save

There's no right answer, but the 1/3 rule is a common target: save for 1/3 of expected costs, plan to pay 1/3 out of current income during college years, and expect the student to cover 1/3 through scholarships, work, and loans. This keeps you from overfunding and keeps your kid invested in the outcome.

The 1/3 rule in real dollars

Make it concrete. A newborn today attending a public in-state university in 18 years might face a four-year all-in cost around $130,000–$150,000 (today's ~$100,000 sticker, inflated at 2–3% a year — tuition inflation has historically outrun general inflation, so pad the estimate). Under the 1/3 rule, your 529 target is roughly $45,000–$50,000 in future dollars. Starting at birth, about $110/month invested at a 6% average return in an age-based portfolio gets there. Wait until the child is 8 and the same target needs roughly $290/month — the ten lost years of compounding nearly triple the monthly price. Wait until 14 and it's over $850/month, at which point the 529's tax advantage barely has time to matter. The single biggest lever in college funding isn't the plan you pick or the state you file in. It's the start date.

Setting it up: an afternoon's work

1. 1
   Check your state's deduction first

   About two-thirds of states offer a tax deduction or credit for 529 contributions — most only for their own plan. If yours does, that's usually the plan to use. If your state offers nothing (or has no income tax), shop nationally for the lowest-fee plan with good index options.

2. 2
   Choose the age-based portfolio

   Unless you want to manage the glide path yourself, pick the age-based or target-enrollment option. It holds mostly stocks while the child is young and shifts automatically to bonds and cash as college approaches — the same de-risking every dated goal needs, done for you.

3. 3
   Automate a monthly contribution

   Set the transfer for payday and treat it like a bill. Even $50/month at birth grows to roughly $19,000 by 18 at 6% — a meaningful dent, and an account that exists attracts grandparent contributions in a way a vague intention never does.

4. 4
   Tell the grandparents it exists

   Anyone can contribute to the 529, and under current financial aid rules, grandparent-owned 529 distributions no longer count against the student on the FAFSA. Birthday checks routed here compound for a decade instead of becoming plastic.

Common 529 mistakes

• Funding college before retirement: worth repeating, because it's the most expensive mistake on this list. Match and 15% to retirement first; the 529 gets what's left.
• Overfunding out of fear: the Roth rollover softens the penalty, but $35,000 is the lifetime cap. Aim for the 1/3 target, not the full sticker price — underfunding is fixable with cash flow and loans; overfunding is locked in.
• Sitting in cash inside the 529: the tax-free growth is the whole point. A 529 holding a money market fund for 15 years wastes the wrapper.
• Ignoring fees: plan expenses range widely between states. A half-percent fee difference on 18 years of contributions costs thousands — check yours against the cheapest national plans.
• Forgetting the beneficiary is changeable: unused funds can move to a sibling, a cousin, or even yourself for a future degree, penalty-free.

How 529s interact with financial aid

A common fear — 'saving will just reduce our aid' — turns out to be mostly wrong, and the details matter. A parent-owned 529 is counted as a parental asset on the FAFSA, assessed at a maximum of 5.64%. Translation: $50,000 in a 529 reduces need-based aid eligibility by at most about $2,800 a year — while giving you $50,000 plus years of tax-free growth to actually pay bills with. Money in the student's own name is assessed far more harshly (20%), which is one reason a 529 beats a savings account in the kid's name for aid purposes as well as tax ones. And under the current FAFSA rules, distributions from grandparent-owned 529s no longer count as student income at all — a significant planning door that used to be a trap. Families who skip saving to 'protect' their aid eligibility are usually trading a real dollar of savings to preserve six cents of hypothetical aid, much of which arrives as loans anyway.

The deeper point: aid formulas mostly respond to income, not modest savings. A family earning $150,000 will not be rescued by having saved nothing, and a family earning $60,000 will usually qualify for significant aid even with a healthy 529. The plan that works across almost every scenario is the boring one — fund retirement fully (retirement accounts are invisible to the FAFSA), aim the 529 at the 1/3 target, and let the aid formula do whatever it does to a number that was never going to dominate the outcome.

The bottom line

Fund retirement first, then aim the 529 at about a third of expected costs. Start as early as possible — the start date is worth more than any other decision — use your state's deduction if it offers one, automate a monthly amount, and let the age-based portfolio handle the investing. The Roth rollover has defused most of the overfunding risk, but the 1/3 rule keeps the whole plan balanced: your money, your income during the college years, and your student's own skin in the game.