While a 529 plan is commonly considered the “best college savings vehicle”, this option does have some downsides.
Reasons to use a 529 plan:
Investments in 529 plans grow tax-deferred and withdrawals are tax-free when used for qualified college expenses. Also, most states offer income tax deductions on contributions. Even if funds are not needed for the intended beneficiary, there are other options that let the owner escape tax penalties.
Reasons against using a 529 plan:
• The earnings portion of withdrawals not used for qualified expenses is subject to ordinary income taxes and a 10% penalty.
… one instance where the benefits of a 529 college-savings plan may not have time to accrue is for those that are looking at very short investment horizons—such as one year—before beginning to take withdrawals. The benefit of tax-free growth is very limited over such a short period of time in low-return, no-risk investments, and could be offset by investment expenses or plan fees in the short run.
• Requires extra research.
Plans will vary from state to state, which is a little more challenging for families. Therefore, you need to do your due diligence on the sales charges, fees, and investment choices by the plan administrator.
• Limited investment options and higher fees.
• Restrictions in moving funds between accounts.
Some families may simply prefer to maintain more flexibility and control over their college savings, and therefore are willing to forego the tax benefits that 529 plans offer. There are no absolute right or wrong choices since investing is a highly personalized undertaking. Here’s a good resource for learning more about 529 plans: