How to Manage 529 College Saving Accounts During the Coronavirus Downturn
Despite 529 accounts (and everything else) taking a big hit, a sudden shift of strategy could make things even worse.
The only thing as terrifying as the coronavirus pandemic itself is the economic toll it’s going to impose, at least in the short-term, on the economy. Reading financial headlines of late has become a stomach-churning exercise, with the S&P 500 index suddenly down to its lowest level in three years.
It’s a grim reality not just for those saving for retirement, but for parents building up their children’s 529 accounts for college savings. In just a couple weeks, some have seen their college funds suddenly plunge by as much as one-third.
So what’s a parent to do when their 529 is as battered as a prize fighter slogging through the 12th round? Here are some of the dos and don’ts for managing these tax-advantaged accounts in the midst of a pandemic.
The old maxim, “buy low, sell high,” seems simple enough when times are good. And yet a lot of people throw away this cardinal rule of investing as soon as things get choppy. In response to the financial crisis a decade ago, around 10 percent of investors cleared out their 529 accounts and another 20 percent transferred to more conservative funds, Mark Kantrowitz, publisher of SavingForCollege.com, recently told CNBC.
Yet this is the worst possible time to liquidate your stock holdings—all that does is ensure that those losses are permanent. History shows that markets take a big dip from time to time, but typically rebound within a couple years. You want to have skin in the game when the black cloud of COVID-19 finally dissipates.
TIAA-CREF, which administers eight 529 plans, is clearly trying to walk folks off the ledge. “Investors should not try to exit and re-enter into stocks or other risk assets to avoid the turmoil,” its asset management subsidiary, Nuveen, wrote in a report this month. “Instead, we think investors should stay focused on their long-term goals, stick with rebalancing plans and review asset allocation strategies.”
Every instinct in your body is probably telling you to stop putting good money after bad. In the long run, however, you’ll be much better off if you continue to buy when the market is down.
“When there’s volatility in the market and you have time on your side, you’re basically buying things on sale,” Jennifer Kruger of Fidelity Investments told the Washington Post earlier this month. “Weeks ago, things were expensive. Now they’re cheaper.”
If you’re used to investing a fixed amount of money from each paycheck, keep it up. By “dollar-cost averaging,” you accumulate more shares when their value suddenly tanks. When the recovery happens—and it will—you’ll be in better shape than those who let fear take over.
Reevaluate Your Asset Mix
Downturns in the market always serve as a reminder that you need to match your investment strategy with your time horizon. If your kids are still in preschool or elementary school, you’ll likely have plenty of time to ride out the stock slump. But parents whose kids are nearing college should really skew their portfolio toward more conservative assets.
Fortunately, you can adjust to an appropriate risk level without too much effort. Most 529 plans offer age-based portfolios that automatically shift assets from stocks to bonds and money market funds as children get older. Some plans offer different risk levels — “conservative,” “moderate” and “aggressive” options are common—so it’s important to research each glide-path in order to find one with which you’re comfortable.
Consider Delaying Withdrawals
So what do you do if your child is already in college and you were a little too aggressive with your asset mix? There are a couple things you can do to take care of looming university bills.
You can use a savings account or other funds to pay off the expenses, in the hopes the market will rebound sooner rather than later. If the recovery takes root in a matter of months, you could withdraw 529 funds before the end of the calendar year to pay yourself back.
If your account is in particularly bad shape these days, you might even consider taking out a small, low-interest loan to pay tuition and other education-related fees. When the market does come back, you can tap your 529 to pay down at least part of that debt (as of 2019, student loans are considered a qualified expense). It’s a strategy that may work better with small dollar amounts, however. There’s a $10,000 lifetime limit per child on student loan payments from a 529 account — otherwise it’s subject to ordinary income taxes and a 10-percent penalty.
Look Elsewhere for Emergency Funds
With about a third of the country under lockdown right now, there’s no telling what economic carnage this pandemic will unleash. An economist for Goldman Sachs predicted we could see more than two million initial jobless claims when the numbers come out until Thursday, a gargantuan increase from the 281,000 reported last week.
Needless to say, people are going to need other sources of cash. Alas, 529 plans are not the place you want to start looking. While 401(k)s and IRAs allow penalty-free hardship withdrawals in some cases (you still may have to pay income tax), college savings plans don’t. That means you’ll have to pay taxes, plus a 10-percent penalty, if you try to dip into your kid’s account.
Relying on long-term investments to take care of short-term needs is never an easy option, but sometimes it just might be a necessary one. If you’re having trouble paying the mortgage or putting food on the table, your employer may allow you to use your 401(k) money if, according to the IRS, you demonstrate an “immediate and heavy financial need of the employee and the amount must be necessary to satisfy the financial need.” IRA hardship rules are a little more rigid, but they do include no-penalty withdrawals if you use the funds to pay health insurance premiums during a protracted unemployment.
Both might be a better option than the double-whammy of dipping into a college savings account that just lost up to a third of its value—and paying Uncle Sam a big fee, to boot.