Schools are back in session. All around the country, college students are finally back on campus enjoying a fall football game, attending classes with friends, and spending the afternoons studying at the student union. Okay, only some of that is true. Schools ARE back in session. However, many campuses still resemble ghost towns because of the pandemic. Perhaps the scariest fact of all is that some schools have postponed fall sports! Here in Nebraska, the University of Nebraska-Lincoln campus is holding classes in-person. But football isn’t happening. Or maybe it is. I don’t know, it’s hard to keep up with the headlines. By the time you read this article, the news probably changed again. In any case, many parents are wondering: now that my child is attending college, how should I invest my 529 college savings account?
First, let’s address some housekeeping issues. Are you wondering how much you should be saving for your child’s college education? Check out last month’s blog article, not this one. Second, this article is primarily focused on the state-sponsored 529 plan for Nebraska – the NEST plan. Different state-sponsored plans have different investment options. However, different state’s plans share a lot in common, so you can use some of these principals even if you don’t use the NEST plan. Third and finally, First National Bank of Omaha currently manages the NEST plan, but Union Bank & Trust will be the new program manager soon. The investment options will probably change once that change occurs. Just know that this content is geared towards the options offered by First National Bank of Omaha.
Even though you’re withdrawing money from the 529 college savings account, don’t stop contributing
Okay, let’s get down to business. Now that you have a college student attending classes, you are likely going to be taking money OUT of the account instead of just putting money in. You need to be cognizant of that fact when deciding how to invest what’s in the account. But first, don’t make the mistake of thinking that because your child is now in college, you shouldn’t contribute to the account. If you live in Nebraska and contribute to the NEST plan, you might qualify for a state income tax deduction. Talk to your tax professional to confirm, but don’t ignore the deduction opportunity. You can contribute to the account, get the sate income tax deduction, then take it right back out to pay for tuition. There are limits and rules, but it’s something to consider.
How is your 529 plan currently invested?
There are many investment methodologies within the NEST 529 plan.
- Individual: build a custom portfolio from scratch
- Static: choose a diversified stock/bond allocation that doesn’t change as your child ages
- Age-based: choose the level of risk you’re comfortable with, and that portfolio will get more conservative as your child ages
If you choose an age-based option, you might not have to change anything, even as you start withdrawing from the account! The portfolio automatically became more conservative as your child neared college age. By the time they’re in college, the portfolio is already invested to allow for distributions.
With that said, you should still take a closer look at what’s within the age-based option you chose. The most conservative age-based option is invested 100% in cash for students age 19 and older. Conversely, the most aggressive age-based option has more than 20% in stocks and only 21% in cash. Those portfolios are quite different. For reference, check out the chart below which compares historical risk and rewards of various investment allocations. Just know this particular chart is not representative of the NEST-specific portfolios. Also remember that historical returns aren’t indicative of future performance.
How to invest within the 529 college savings account depends on time horizon
One major component to the allocation decision (i.e. how much you invest in various investment vehicles within the account) is time horizon. Do you expect to use the entire account within the next two years? This is common. Many parents haven’t saved the entire 4-year college bill within the account. The parents will deplete the account before the child is a junior or senior. That’s okay, but when your time horizon is that short, it’s a good idea to use conservative investments like cash and short-term bonds that won’t fluctuate much.
Within the NEST 529 college savings plan, there are many ways you could invest in a conservative allocation of cash and bonds. Age-based growth or age-based index offer conservative options for college-aged students. The “bank savings” static option is entirely cash. Or, you could craft a custom portfolio of money market and fixed income investments from the “individual” menu of investments.
Is your 529 account meant for multiple children?
While it’s typical to have a few of years of distributions covered by cash and short-term bonds, you may want to have some exposure to equities for longer-term growth. Long-term growth for a 529 college savings plan for a student who’s already in college? Yes, there are reasons that would make sense. For example, some parents have one account for multiple children. On paper the account only has one student. However, parents don’t necessarily view it that way. In those scenarios, some of the money in the account is meant for the short-term. Another portion of the account is meant for the long-term, when the younger children eventually attend college.
If you are in that position, you could use an age-based aggressive account, which has some exposure to equities. You could also craft a custom portfolio of equities, fixed income and cash using the individual options. Or, you could choose a balanced or conservative static portfolio that would have cash to cover the short term, and equities for the long term. But I would consider making it cleaner. Open separate accounts for your younger children instead of trying to create a blended allocation that is appropriate for multiple time horizons.
Is your child going to have some leftover money in their 529 account?
Another reason you might want to keep some equities in the 529 account is because your child won’t use the entire account. Maybe your child has scholarships or grants. Maybe the account value is simply larger than the cost of college. In either case, you may want to invest a portion for growth. You can use the leftover portion for graduate school, a younger child, or even grandchildren.
Don’t invest in something beyond your personal tolerance for risk
One you decide on an appropriate stock/bond allocation, you’ll need to decide exactly how you want to execute that plan. While I gave you some general guidance, I didn’t get too specific. That was for good reason. Time horizon is important, but your own personal risk tolerance is, too. You’ll need to invest in a portfolio you can stick with. In other words, if the account value declines, you need to be able to tolerate that fluctuation. Don’t sell simply because you can’t handle the risk anymore. Selling when markets are down tends to be the worst time you can sell. As the table below illustrates, selling because the market was down doesn’t work out in your favor. This is true even if you get back in soon after you sell.
When it comes to details on how much you should have in domestic versus international equities, short-term bonds versus inflation-protected bonds, and more of those detailed questions, I’d ask for help from a professional. If you don’t work with one and you don’t want to, consider the age-based accounts. Those are the most hands-off investment options you can get.