529 Decisions: Do You Need a Broker?

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A state-sponsored Section 529 plan is one of the best options for college savings. But shopping for one is a hassle, like buying life insurance or annuities. It’s hard to make an apples-to-apples comparison.

That’s why lots of families turn to financial advisers. But many “broker-sold” 529s have a serious downside: high fees that can undermine growth. In fact, fees can be a serious issue with “direct-sold” 529s as well, even though there’s no adviser commission when you buy directly from a mutual fund company or brokerage.

So how do you navigate through these hazards? After all, 529s can be a terrific deal, allowing investment gains to be withdrawn tax-free for approved college expenses.

Broker-sold and direct-sold 529s each have pros and cons. Plans sold by brokers generally come with up-front commissions, or “loads,” from 1% to 5.75% of the invested amount, according to a survey by Savingforcollege.com. That cost can be avoided entirely by going the direct route.

In addition, broker-sold plans tend to have higher annual fees, or “expense ratios,” the Savingforcollege.com survey finds. One reason is that plans bought through brokers are less likely to invest in index-style mutual funds, which offer rock-bottom fees, instead emphasizing actively-managed funds that charge more.

On the other hand, broker-sold plans come with expert advice, while direct-sold plans don’t. The higher fees compensate the broker or financial adviser for figuring out which plan suits your family best. The expert should know, for instance, whether your state offers tax breaks on contributions for residents. That could be a plus for the in-state plan. Some states offer matching contributions, scholarships or other forms of financial aid, but only to residents that go with the in-state plan. Of course, these benefits would not tip the balance if the plan has provided poor returns.

And there’s another downside to broker-sold plans: conflict of interest. If advisers will earn more steering you to one plan, they may steer you away from another that would suit you better.

Though picking a 529 is a little different from picking a mutual fund for a retirement account, it’s not as difficult as it first seems. The trickiest questions involve special benefits for state residents. You therefore don’t have to closely examine plans from all 50 states, just one or two: the states where the contributor and student live.

Once you’ve assessed those exclusive benefits, you can weigh those states’ plans against the best offered by other states. Most plans do not require that either the student or account owner be residents. Savingforcollege.com has a list of plans with the lowest fees, as well as a list of plans with the best investment performance.

Morningstar Inc. (Stock Quote: MORN), the investment-information firm, produces an annual list of the best and worst 529s based on factors like performance, risk and fees. The latest list says the best are found in Ohio, Indiana, Utah and Virginia.

—For the best rates on loans, bank accounts and credit cards, enter your ZIP code at BankingMyWay.com.

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