The 529 college savings plan has yet to catch America's attention the way many providers would have hoped. While it is still early in the product's lifespan, it has struggled with profitability issues, low awareness levels among average investors, and potentially crushing legislative barriers.
However, account sizes have been increasing as well as overall assets. Awareness is growing. And optimists have some positive developments to point to - including Charles S. Toth, chairman of the College Savings Foundation, a Washington-based organization representing 529 providers. Toth, who is also Merrill Lynch's director of retirement and education savings, recently spoke with Money Management Executive Associate Editor Chris Frankie about the future direction of the industry, its upcoming busy season and the College Savings Foundation's priorities.
MME: What issues does the College Savings Foundation plan to tackle this year and in 2004?
Toth: At the federal level, the whole sunset provision is something that we have been concerned about. I had actually met with a few staffers of congressmen to talk about the importance of thinking about this. We will continue to work on educating the decision-makers in Washington that they have to move on this sooner rather than later.
Secondly, we want to start actively engaging and talking to various states to reconsider their tax policies with respect to 529 programs.
MME: Some feel that by putting money in a 529 plan, they are gambling that withdrawals may not be tax-free at the federal level when their child needs the money for college, due to uncertainty surrounding the reauthorization of the 529 sunset provision by Congress in 2011. Is the industry doing anything specific to calm those fears, or is it taking a wait-and-see approach?
Toth: We are concerned that individuals put their faith in the government that they will
make that sunset permanent. Unlike the IRA, for example, or the 401(k), where if the sunset provision didn't happen, the individual investor would only have the contribution limit lowered back to previous levels. The time where the provision was enacted could be viewed as a time where the individual was permitted to contribute more.
Whereas in a 529, the real incentive comes at the end of the road when the child goes to college. If the sunset provision isn't extended, the benefit might never occur if the child doesn't go to college until after 2011. So that's something from an industry standpoint that we want to push on.
MME: If that sunset provision is not extended, that would be a huge blow to your industry, wouldn't it?
Toth: I think it would be a huge blow to investors. And, yes, I think it would be a huge blow to the industry because I think many of us have felt that this was an important incentive to help this industry grow. But, I would also say I am pretty confident that I think both Republican and Democratic support is there because the public policy is so important.
MME: Many in the 529 industry point to the success of the 401(k) plan and its relative anonymity 25 years ago and draw parallels between the two products. However, it seems 529s have a number of growing problems. Do you think the two products are a fair comparison in the early stages?
Toth: We did take a look at some adoption rates in the 401(k). There wasn't a lot of good hard data - 25 years ago is before computers became as widespread as they are today, and with them, databases. But, from the little bit of information that was collected since that time, it appears that the 401(k) kind of bounced around early on.
I think the employee match probably was one of the events that triggered 401(k) growth. So, I think you could raise some parallels. I think that if you were going to ask, "What's the trigger event that could really make 529s take off?," I would say two tremendous trigger events would be getting the sunset provision made permanent and getting more states to adopt tax-equity.
MME: Many have said that Lifetime Savings Accounts would provide more flexibility as to where money can be invested as opposed to 529s. How big a threat are LSAs to the 529 industry?
Toth: It's a long way from an idea until actually going to pass, but if Lifetime Savings Accounts are adopted as proposed, then what you would actually see is a huge increase in 529 assets, but then in that same year, a huge decrease. It's because of the way they had designed it. You could put money into a 529 and then roll it over into a LSA for a one-year period. But then after that I think you would see much less money going into 529s, and LSAs would become the first funding vehicle and then maybe you would use 529s for other monies. But I definitely think it would hurt the 529 industry.
MME: Talk about LSAs has really died down recently. What is the latest status on them?
Toth: What I have heard from our Washington contacts is that was a sort of trial balloon the Treasury put out there. I think there are some people in the Treasury interested in pushing the LSAs. That was, again, something that was initiated by the Treasury. It wasn't the private sector. It wasn't the states. The question will be whether it reappears on some future proposal they come out with.
MME: The last four months of the year are generally considered the busy season for 529s because people are thinking more about their child's education during the back-to-school season in September. Also, the end of the calendar year is the deadline for making gifts in a 529. What are firms doing to prepare for this push?
Toth: Those that do direct marketing, such as Fidelity, will become more visible and heighten public awareness through the press, either on radio, TV or print. For those at firms such as Merrill Lynch that rely on our financial advisers, we will start to prepare for them some further education pieces on the year-end gifting and why it's important to think about this as part of year-end planning strategies. Also, why it's a good time to have that discussion with their clients and how they should incorporate 529 plans into their quarterly discussions with clients.
We're still seeing studies that public awareness of 529 plans is very low. But when people are educated about this or talk about the need to save for their kid's education, it still comes up to be about their No. 2 financial savings concern. So, I think there's demand there; there's just a lack of awareness.
MME: Do you see anything being done in the industry to promote awareness more than just increased education?
Toth: Alliance has done a good job of doing some annual surveys to track the awareness. We at the College Savings Foundation want to create a database of information, working with Financial Research Corp.
I think part of the trick to increasing awareness is you need to start to get good data and understand who is actually using the program. Then, you can figure out ways to more effectively increase awareness. I also think the in-state tax issues really confuse individuals, and when people are confused, they don't take advantage of things.
MME: The 529 provision was originally enacted to help families save for college. That was its primary function. However, low account balances have forced providers to look beyond the average family, placing more emphasis on retaining the high-net-worth individual in many instances. Some 529 plan providers are even trying to attract charities. Do you think this has caused the industry to move away from the original intent of the rule in favor of profit margins?
Toth: I think what many people have found is that with running these businesses, there are a significant amount of startup, recordkeeping and other administrative costs. Helping the states through marketing the programs and supporting the states' public policy is expensive.
When you're trying to run a business and you're entitled to earning a fair margin, the challenge is trying to grow your business. I think this is the same kind of problem that individual mutual funds have. Small balance accounts are expensive because you have to generate statements, you have confirms, you have to answer phones and there's paperwork. So, if you have larger balances, you are going to be able to cover your costs and generate returns.
Average account balances are still small - about $6,700. I think the hope is that by being able to gather assets of individuals that have more wealth, investors will be able to put money into these programs, and as a result, 529 plan providers will be able to offset some of the costs of the smaller accounts. On balance, this will help firms achieve the economic goals and standards they are being held to, and at the same time make these programs available. I think it's similar to mutual fund investing in general.
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