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Plunge alters college funds, college plans

The Baltimore Sun

Forget about your 401(k) for the moment. Have you checked your college savings plan?

The recent plunge in stock prices has hit these so-called 529 plans, too.

If your child is in grade school or younger, no problem. You have years for the stock market - and your account - to recover. But you might be in a tougher position if your child is headed for college next year and your money is still heavily invested in stocks. You might have to make some adjustments unless the stock market makes a sustained rally soon.

Plan officials are hearing more from parents about their shrinking account balances.

"There is a lot of concern that people are seeing their 529 account values go down while tuition prices keep going up," says Joseph Hurley, founder of Savingforcollege.com and an expert on 529 plans. Most of the anxiety comes from parents whose teenagers are fast approaching college, he says.

College savings plans, called 529 plans after the tax code creating them, allow families to invest in a variety of portfolios. The money can be withdrawn later without the gains being taxed if the cash is used for college. Plans have a total of $110.6 billion in assets, according to the most recent figures from Financial Research Corp.

On average, plans lost 7.22 percent in the first eight months of this year, according to Morningstar's latest figures on nearly 100 plans. Over the past five years, plans saw an average annual gain of 6.06 percent.

Your own return depends on where you invested your money. (If you have paid for tuition in advance through Maryland's prepaid college plan, you shouldn't have to worry about market swings.)

Savings plans typically offer age-based accounts, where you choose a portfolio based on the year your child will enter college. The money is invested aggressively in stocks, which have had the highest return over time, when the child is young. The investments become more conservative as the child grows older and nears college.

The majority of money in 529s is invested in these kinds of age-based portfolios. If your money is in an age-based portfolio and your teen is approaching college, your investment likely didn't experience the full brunt of the recent turmoil of the stock market.

But many plans offer other portfolios that are always fully invested in stocks, an option created after critics complained in the late 1990s that age-based portfolios were too conservative, Hurley says. These accounts have taken some heavy hits of late.

The Maryland College Investment Plan, managed by Baltimore's T. Rowe Price Associates, has age-based portfolios as well as an all-stock option. As of Thursday, the 100 percent equity portfolio was down 37 percent for the year. The age-based portfolio for students headed to college next year, which includes 23 percent stocks, dropped 13 percent.

Some age-based portfolios are entirely invested in bonds and money-market funds when teens approach college. Price's portfolios for students near college and in college contain stocks to keep up with tuition inflation, says Tom Kazmierczak, Price's senior product manager for 529 college savings.

If your college savings account lost money and your child is headed to campus soon, what can you do?

Make no drastic moves. "Now is not the time to sell and bail out," said Kalman Chany, author of Paying for College Without Going Broke.

You can switch your account balance in a college plan from one investment to another only once a year. But if you dump your stock-laden portfolio now and move money into, say, a conservative money-market fund in the plan, you are locking in those stock market losses. If the market does recover, you won't get the benefit of the rebound, Chany says.

If you're like many parents and make monthly contributions to a plan, you can direct your new contributions to more conservative options if you're nervous about the stock market, says Jackie Williams, executive director of the Ohio college plan and a spokeswoman for the College Savings Plans Network.

The once-a-year restriction to making changes in your account applies only to moving the balance from one investment to another, not new contributions.

Plans offer a variety of conservative options. Maryland's plan offers a short-term bond fund. Plans in Ohio, Arizona and Montana offer FDIC-insured certificates of deposit.

Even if you're investing conservatively, doing so within a college plan is better than depositing money at your local bank because of the tax advantages, Hurley says. You won't pay income tax on the interest income in the plan, and many states, including Maryland, allow you to deduct your contributions on state income tax returns.

What if the market doesn't recover in the next year or two?

Instead of pulling money out for the freshman or sophomore year, wait until the junior and senior years to give your portfolio more time to recover, Chany says.

That could mean relying more on current income, loans and work-study for tuition in the first two years, and tapping the college savings account for the last two.

Though private student loans are harder to come by during this credit crunch, the government recently increased the amount that students could borrow under federal Stafford loans by $2,000 a year. The new limits for dependent students are $5,500 for freshmen, $6,500 for sophomores and $7,500 for juniors and seniors.

Another alternative for parents who suddenly have less money for college is to send children to less expensive schools, says Michael Kitces, director of financial planning for Pinnacle Advisory Group in Columbia.

Students might have to go to a public institution instead of a pricier private college, or attend a community college for a year or two before transferring to a four-year university, he says.

Students are already thinking that way. A recent online survey by MeritAid.com of more than 2,500 prospective college students found that nearly half worried about being able to afford college, given the economic downturn. And 57 percent of them said they are considering less prestigious but more affordable schools.

This may be a silver lining to the current mess.

For years, many students have borrowed heavily to go to high-priced schools, yet wound up with low-paying jobs and struggled to keep up with loan payments. If students start looking at the cost of college and how to pay for it, they might graduate with less onerous debt.

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