College Q&A: A 529 or Trust Account?

Welcome to MainStreet's newest series. Each week, we will answer a real question from readers on education costs and how to pay for college. If you have a question, feel free to send it to editors@mainstreet.com.

Q: "We have a nest egg for our kids' college funds. We are pretty risk-averse, and hope to grow this seed money with good returns but as little risk as possible.  The money is currently in a uniform trust for minors account, which is conservatively invested.  Are we better off using a 529 plan, or would we wind up subjecting the funds to too much market uncertainty that way?"

- Bill, Bethesda, Md.

A: Generally, high-return investments have higher risk of loss, and low-risk investments offer a lower return. If there were a high-return, low-risk investment, everybody would be pursuing it.

Saving for college involves balancing the risk against the return. In any 17-year period, the stock market drops significantly at least two or three times. You can’t avoid the risk, but you can manage it through an age-based asset allocation.

When your children are young, you can afford to invest in stocks and other high-risk funds. The potential dollar losses are smaller since your savings are smaller and you have a decade or more to recover from the losses. When college approaches, however, the potential dollar losses are much higher and there isn’t much time to recover from a loss. The money should be invested conservatively, and all 529 college savings plans offer age-based asset allocation schemes.

If you don’t feel comfortable investing in stocks, you should stick to low-risk investments like certificates of deposit. Some of the state 529 college savings plans now offer CDs. However, you should realize that the interest rate on a CD is unlikely to provide a good hedge against tuition inflation.

Whatever you do, don’t keep the money in a uniform trust for minors account if you think you might qualify for need-based student financial aid. A UTMA account is treated as a child asset on need analysis forms like the Free Application for Federal Student Aid (FAFSA). This may affect your children’s eligibility for need-based student financial aid because child assets are assessed more severely than parental assets.

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