Take These 4 Steps Before Opening a 529 Plan

Reyna Gobel

Jeff Howkins remembers lying awake at night worrying about how he and his wife were going to send their children to college--before they had any.

Howkins, president of Sallie Mae's Upromise Investments, Inc., says he learned he didn't have to "eat the elephant in one bite." The Howkins' bought a $1,000 zero coupon bond, where interest accrues but is not paid out for years. By the time the Howkinses were ready to use it, the value of their investment grew to $15,000.

[Get more tips on how to pay for college.]

Howkins says buying the bond made him and his wife feel like he did something toward paying for college for their kids. "Parents worry about not saving enough and become discouraged," he says. But Howkins says saving for college doesn't involve writing and following a 20-page comprehensive report. Instead, he says, small actions create big results.

One such action might be to set up a 529 college savings plan. Follow these four steps to find time and money to start and fund a 529 plan:

1. Start a 529 plan piggy bank: Named for the section of the Internal Revenue Code under which they were created, 529 plans are college savings accounts that allow money to accumulate and be withdrawn tax free when used for education-related expenses. "Some 529 plans, such as the Utah Education Savings Plan, have no minimum dollar requirements," says Lynne Ward, UESP executive director. "Families can save as little or as much as they want." Parents who pay cash for all their purchases can save the change and, whenever their piggy bank fills up, deposit the money into their checking account so it can then be transferred into a 529 plan.

The same strategy can be applied to debit card purchases by rounding all debit card transactions to the nearest dollar each week and then transferring the difference into a 529. Saving $5 per week adds up to $260 per year. Over 10 years, parents or grandparents save $2,600 before any return on investments. If you earned a 4 percent return, you'd earn close to another $650.

2. Pick an uncomplicated 529 plan: If you're limited on time, try not to pick a plan with myriad investment choices. According to Ward, some plans have 20 to 40 investment options. Look for a 529 plan that has investment options that fit your needs. "Age-based investment options are great for account owners who don't want to self-manage their account funds," says Ward.

[Compare 529 plans and Roth IRAs.]

3. Save systematically and within your budget: Setting an automatic monthly deposit into a 529 plan is an easy way for parents to remember to save, experts say. However, it's important to note that what savers can afford one month may not be feasible the next month. According to experts, parents should pick an amount they can afford in the month where their electric bill is at its highest, or when sales are the lowest if working on commission. Sending in extra cash when available is always an option.

4. Take advantage of free money from your state: "Check with your home state's plan first to see if any incentives are available," says Laura Lutton, author of Morningstar's "2011 529 College Savings Plans Research Paper and Industry Survey."

"Some states allow you to apply those tax benefits to any plan in the country, but often you lose your state's benefits if you go elsewhere." Based on information from her report, state benefits can total more than $1,000 in a year.

Reyna Gobel, frequently quoted as an expert on student loans and college costs, is the author of "Graduation Debt: How To Manage Student Loans And Live Your Life" and "How Smart Students Pay for School: The Best Way to Save for College, Get the Right Loans, and Repay Debt." She has appeared on PBS's Nightly Business Report and speaks regularly at CollegeWeekLive.