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May 16, 2003
Socially Responsible Investing in 529 Funds Requires Some Savvy
    by William Baue

There are now three SRI options for 529 college savings plans, though ascertaining how best to save for college in a socially responsible way may require professional advice.

As financial aid deadlines loom for some colleges, social investors with children may be considering a 529 college savings program. The 529 program can offer significant tax advantages on investments for future college-related expenses, but there are only three that offer socially responsible investment (SRI) options.

In November 2002, the District of Columbia introduced the third 529 college savings plan with an SRI option. Calvert Asset Management Company manages all of the funds in the DC College Savings Plan, including the SRI funds. The Calvert Social Equity Fund (ticker: CSIEX) and the Calvert Social Bond Fund (CSIBX) are also available through Pennsylvania's 529 College Savings Plan, while California's Golden State ScholarShare program offers TIAA-CREF's Social Choice Fund.

"The most advantageous 529 program for socially responsible investing is offered through the Washington, DC program," Catherine Scheib, a certified college planning specialist at Social Insights College Solutions of Lewisburg, Pennsylvania.

There are approximately 100 certified college planners in the U.S., though Ms. Scheib is the only one who is also a member of the Progressive Asset Management (PAM) network. PAM specializes in SRI.

The 529 programs are state-administered and are open to both state residents and nonresidents. Often, however, families receive additional tax advantages when they invest in their home state's 529 program.

As of January 1, 2002, all 529 funds became exempt from federal taxes, increasing the popularity of this college savings vehicle. However, the devil may be in the details, especially for social investors whose options are relatively limited.

"529s are like the McDonald's of college savings programs: they're quick, they're easy, everybody recognizes them, but they may not be good for you," Ms. Scheib told "One of the most important factors in considering a 529 plan, regardless of whether it's socially responsible or not, is whether it will hurt the student's financial aid eligibility at later stages of college planning."

Wealthy families who would not qualify for financial aid anyway may not need to worry about this issue, but for the majority of families who rely to varying degrees on financial aid, this consideration is significant. When calculating federal aid eligibility, the government considers monies in 529 plans as family assets. Schools may expect the family to contribute up to 5.6 percent of the plan's assets if the account is in the parent's name, or 35 percent of the plan's value if the account is in the student's name.

Savvy investors trying to circumvent this obstacle by opening 529 funds in grandparents' name may still run into a wall.

"The regulations and laws are still in flux for 529 plans, but what appears will happen is, if the 529 plan is in the grandparents' name, it won't count as an asset when calculating financial aid eligibility initially," said Ms. Scheib. "However, as soon as families begin to withdraw dollars from the plan, the government is going to count that money as income to the student, and be assessed at 50 percent."

In other words, if grandparents contribute $10,000 out of a 529 plan to pay for tuition for the freshman year, when a student fills out financial aid forms for the sophomore year, it's going to look like the student made $5,000 in income.

"In a worst case scenario, the government may assess contributions dollar-for-dollar," Ms. Scheib said.

In addition to this potential liability, states are increasingly discouraging residents from investing in other states' 529 funds.

"What seems to be happening is that states are closing the loophole on the tax-free advantage at the other end when it comes to paying state taxes on gains on 529 plans," explained Ms. Scheib.

Most social investors already have to look out-of-state for SRI 529 options, so this problem is not as egregious. In fact, Pennsylvania does not offer its residents a year-of-contribution tax advantage for its 529 plan, so Pennsylvanian social investors may even choose to invest in the D.C. fund, if the pros for their particular situation outweigh the cons. This situation illustrates how a financial planner may be necessary to assess the best college savings strategy.

"There are other ways to save money that will grow in the same tax-free manner as a 529 plan, it just takes a little more creative portfolio management," said Ms. Scheib. "For example, things like municipal bonds are tax-free on the other end. They don't have the same constraints as a 529, and some people consider all municipal bonds as socially responsible, because you're essentially supporting a community."

Correction (05/29/03): Our May 16, 2003 article about 529 college savings plans stated that there are three plans that offer a socially responsible investing option. There are actually four. The Texas 529 plan, "Tomorrow's College Investment Plan," offers Enterprise Capital Management's Global Socially Responsive 529 Portfolio. The portfolio's assets are managed by Rockefeller & Co., Inc. apologizes for the error. Ed.


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