College savings funds have slashed fees this year, Morningstar reports, making them worth another look.

Nebraska's College Savings Plan and plans run by Fidelity, T. Rowe Price, and Vanguard all cut fees this year.  The Fidelity plans in California and New Hampshire, for example, trimmed their program-management fee on the indexed age-based options by half, to 0.15%. The same fee on its actively managed age-based options dropped by a third, to 0.10%.

The plans have also been moving towards index options, which cost less. The cheapest indexed funds now cost between 0.20% and 0.25% per year, Morningstar found.

In addition, sales loads are often waived for customers with other accounts, according to Morningstar’s editorial director for mutual fund research, analyst Laura Lutton.

Fees are key for investors with $50,000 or more in their plans or who live in states that don’t offer tax advantages for a 529 investment.

For those saving less than $25,000, the tax benefits in the home state are usually rich enough to make up for high fees or poor options. Morningstar looked at the tradeoffs for a couple earning $100,000 and contributing a $1,000 a year to a plan. Once the account reaches $50,000, the tax benefit for a $1,000 falls so low (.20%) that it would probably pay to choose a plan in another state that outperforms or has lower fees.

There’s also an estate-planning benefit: Gifts of as much as $13,000 per year may be directed to a child's 529 account without triggering a gift tax. Provided they don’t give more over the next four years, grandparents can give $65,000 tax-free (or $130,000 for a couple).
 
Morningstar’s top picks for 2010 included two similar plans offered by T. Rowe Price and a Vanguard plan. The fund-picker looked for good performance, low manager turnover and low fees,

It chose Ohio’s College Advantage plan, which has “a mix of advisors and strategies,” Lutton said.

Virginia’s plan made the top five because of the high performance of the American Funds, which must overcome fees paid to brokers. However, because the Virginia plan doesn’t shift assets as the child approaches college age—the “set it and forget it” option—success depends on the investor or advisor adjusting the fund choices.

Residents of Maryland, Virginia and Ohio have an easy choice: the states offer top-rated plans plus a home-state tax break.

Morningstar is expanding its analysis this fall from its report to ongoing coverage of 529 plans that work like target funds shifting money over time. These funds have been difficult to compare. In the recent downturn, investors unhappily discovered that some funds had too much money in stocks in the years just before college.  

Investors are attracted to 529 plans as college costs soar, with expected inflation of five percent.