Monday the S&P 500 closed down 8.62% from its Feb 19th high. For many parents, it’s a reminder that 529 savings plans are investment vehicles. If your 529 plan is the cornerstone of your education funding strategy, you may be worried.
With over 16.8 million accounts according to the College Savings Plans Network, 529 savings plans are currently the most popular college savings vehicle. Given over a half trillion in the plans, this recent market crash demands a thoughtful response. Unlike retirement accounts, where many families can wait out a market downturn, college savings plans are typically bound by a timeline of 18 years or less.
What’s A 529 Plan?
Qualified Tuition Programs, more commonly known as 529 plans, are tax-advantaged municipal products designed to help Americans save and pay for college. They come in two flavors: the College Savings Plan, which invests in securities like mutual funds and ETFs, and the Prepaid Tuition Plan, which locks in current tuition rates at participating colleges.
- Tax Advantages: Earnings grow federal and state tax-free, and withdrawals for qualified education expenses are also tax-free.
- Flexibility: 529 plans can be used at most accredited institutions, including universities, vocational schools, and many international schools. In some cases unused funds can fund a Roth IRA for the beneficiary.
- Contribution Limits: High contribution limits compared to other savings accounts.
- State-Specific Benefits: While you can invest in any 529 plan nationwide, there may be incentives to use your home state plan, such as tax credits or deductions, exclusion of assets for consideration in state aid calculations, matching grants, and more.
Prepaid Tuition Plans are unlikely to be affected by market conditions, as participants are locked into the price of the school or schools as they make contributions. Savings Plans work more like 401(k)s, offering a menu of underlying investments from which participants can choose.
Common Concerns During Market Downturns
Market declines can lead to a drop in your 529 account value, especially if it’s heavily invested in equities. Unlike retirement accounts, which have a longer time horizon, college savings are likely to be drawn-down for college within 18 years, at most. If your child is nearing college age, you may have a material reason to make changes in your college savings strategy.
Assess Your Current Allocation – Take a close look at your investment election within your 529 plan. There’s a common misperception that a 529 plan is an investment, but the plans usually have several options from which to select. If you have an enrollment-date fund, check how it adjusts over time (called its “glidepath) and whether it aligns with your risk tolerance.
Many families pick the target enrollment portfolio of their respective 529 savings plan when setting it up. It’s a straightforward set-and-forget model, and for most families it may be fine. However, it’s worth looking at what’s actually held in that target enrollment portfolio to better understand what you own, because the glidepath risk between plans can vary widely even when they have the same target enrollment date.
Rebalance Your Portfolio – If you happen to hold a mix of “individual” portfolios within your 529 plan, such as a pure equity fund or mix of individual equity and fixed income options, consider rebalancing. Your assets may have appreciated or moved away from their original mix, so you might need to sell overperforming assets and buy underperforming ones to maintain the desired risk level.
Reallocate Your Plan – Where rebalancing is a shift back to target models, a reallocation involves a more significant shift in your investment strategy. Your personal financial situation may have changed, for example, and time will have passed. If you have a very short run until tuition bills arrive it might make sense to aggressively reallocate toward fixed income or cash to preserve value. Even if you use target-enrollment portfolios you may want to modify your risk exposure by putting a portion of funds into an equity portfolio or fixed income portfolio to modify your risk to be more or less aggressive, respectively. Some plans will allow you to shift to a different date of enrollment to get the mix you want, so review your plan options carefully with the provider or a professional.
Do Nothing – Depending on your personal financial situation you may not need to take any action. If your beneficiary is very young, meaning you have time to wait out a bear market, you can continue contributing to dollar cost average into the decline and subsequent recovery, reducing your average cost per share. Alternatively, if your beneficiary is older, but you are lucky to be in a position to fund college with non-529 assets, you may be in a position to leave the 529 account untouched and wait out a market downturn. The funds could then be used to fund later college years, transfer them to a younger sibling, use them to fund a Roth IRA (subject to qualifying), or just sit on them for a future generation.
Use caution and carefully weigh your decisions to avoid “panic selling,” which can result in permanently diminished savings. Withdrawals during a market low lock in losses and prevent your account from participating in the recovery. This has been demonstrated repeatedly over the last century. In every recession from the dot com burst to The Great Recession (2008) to the brief but sudden 2020 crash investors said, “this time is different because.” The timing of the bottom and subsequent recovery is impossible to predict with certainty. Use caution with any source claiming otherwise, and check yourself for cognitive biases that may be impacting your ability to make logical decisions based on facts and best practices.
Still Not Sure What To Do?
Speaking with a professional can provide personalized insights to help you make informed decisions specific to your situation. Understand how the planner is compensated and look for professional designations such as the Certified Financial Planner® credential. A professional can offer guidance specific to your financial situation and risk tolerance where generalized guidance does not suffice.
If you have the financial flexibility, you might consider increasing your contributions to your 529 plan during market downturns to mitigate market timing and sequence of returns risk through dollar-cost averaging. You cannot control how investment markets perform, but you can control your ongoing savings. The lion’s share of account growth often comes from contributions.
Lastly, some people will advise to unplug and stay calm. However, it is important to stay informed by keeping abreast of market trends, economic indicators, and changes to 529 plans both at the legislative and plan level. You may want to respond to market conditions or the products you’re using to save for college depending on the nature of the changes.
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