US prepaid college savings plans shine as inflation soars

When inflation is low, locking in prices now for something down the road is hardly worth considering. But now it can be a big deal.

Just ask Dennis Nolte. The senior vice president for Seacoast Investment Services in Winter Park, Florida, had the foresight to invest a lump sum in Florida's prepaid college tuition plan in 2014 for his daughter Jessica, then aged 12.

Jessica is now a sophomore studying finance at the University of Florida in Gainesville, with her tuition and fees all paid for.

"It does feel pretty good to know that no matter what inflation doing, we have got this covered," Nolte said.

Nolte's experience shines a light on an interesting corner of the U.S. college-savings market: 'Prepaid' plans which let you buy credits or years of education at a set rate.

When the price of everything seems to be going up – the annual U.S. inflation rate was 8.5% as of July – the idea of fixing future expenses at current levels can be appealing.

This is especially so in higher education, where the average annual sticker price for four-year in-state colleges has risen to $10,740; four-year out-of-state colleges hit $27,560; and private nonprofit colleges are $38,070, according to the College Board.

"Prepaid plans are somewhat of an inflation hedge and not subject to stock market risk," said Tom Balcom, founder of 1650 Wealth Management in Lauderdale-by-the-Sea, Florida. "Clients love prepaid plans when there is stock-market volatility, since it does not impact them or their savings."

Prepaid accounts are a small part of the college-savings market. As of June 30, about 931,000 such accounts around the country had $24 billion in total assets, according to ISS Market Intelligence. Compare that to more typical 529 plans, a much larger market of 15 million accounts with $388 billion in assets.

Prepaid tuition plans are not for everybody. In fact, they are rarer these days, with only certain states even offering them. A few elements to consider:

BE CLEAR ABOUT IN-STATE REQUIREMENTS

A prepaid plan limits your educational options, which you (or your children) may or may not be comfortable with. Buying into the Florida plan like Nolte, for instance, will guarantee tuition at public Florida universities, but will not cover the full fare if your kid eventually wants to go out of state.

In cases like that, you typically receive the average of what a public in-state school would cost, but you can apply it elsewhere.

THEY ARE NOT AVAILABLE EVERYWHERE

Only nine states offer prepaid plans that are open for new enrollments, according to student aid expert Mark Kantrowitz: Florida, Maryland, Massachusetts, Michigan, Mississippi, Nevada, Pennsylvania, Texas and Washington.

Some other states like Illinois and Virginia still operate them for existing participants, but are closed to new investment.

The Private College 529 Plan is a unique option that lets you look out of state, with over 300 participating institutions nationwide.

KNOW WHAT IS COVERED

While traditional 529 plans cover a wide range of education-related expenses, prepaid plans tend to stick narrowly to tuition and fees. You may want to supplement a prepaid plan with other savings, to help with a broader swath of expenses.

"One strategy would be to also contribute to a 529 plan to cover expenses not covered by the prepaid plan," suggested Paul Curley, associate director for 529 solutions at ISS Market Intelligence. "Those include books, computers, room and board if needed, and other qualified higher education expenses."

PLANS VARY

Whether or not a prepaid plan is a good deal or not depends on the individual state – the quality and range of educational institutions, and pricing. In Florida's case, Nolte said, the prepaid plan used to be somewhat expensive, but then prices were trimmed back twice, which led to him getting a partial refund.

Since each plan is unique, some homework is required before deciding whether your own state's offering is worth it.

"Parents and advisers should read plan disclosures before enrolling," said Curley. "Many prepaid plans are structured differently in terms of residency requirements, payment amounts, payment frequency, enrollment periods, which colleges and universities they cover, whether they cover room and board or tuition only, and more."