Getting a tax break? Avoid the worst

If your state does give you a tax break to stay put, avoid the plans that wound up on Morningstar's "below average" list:

  • Wisconsin's adviser-sold Tomorrow's Scholar College Savings Plan, administered by Wells Fargo, suffers from "unremarkable investment choices," Morningstar says. Residents who want to keep their tax breaks (they can exclude up to $3,000 annually from their income) have a better option: They can invest in the state's EdVest College Savings Plan, also run by Wells Fargo, which received Morningstar's "average" rating.
  • Maine's NextGen College Investing Plan "features a pricey lineup of investment options," according to Morningstar. Its program manager, Merrill Lynch, was fined by regulators for its sales practices. Mainers get a $500 grant for opening a NextGen account before their child's first birthday, while some residents with older children can get a one-time matching grant of $200, and up to $400 in additional matching grants may be available for any beneficiary. After that, though, there's not much reason to stay: Residents can deduct $250 per child from their taxable income for contributions to any state's plan. Beneficiaries can have plans in more than one state, so rather than closing NextGen accounts and losing the grants, residents can simply open new accounts elsewhere.
  • Nebraska's TD Ameritrade 529 College Savings Plan is hampered by high fees. Morningstar says "a disappointing price tag" diminishes the appeal of this plan. A better choice for Nebraska residents who want to keep their $5,000 income exclusion would be the state's NEST Direct College Savings Plan.
  • Rhode Island's CollegeBoundfund was ranked "bottom" for its high costs and weak stewardship by administrator AllianceBernstein until the plan added Vanguard indexed investment options. Since Rhode Island residents don't have other program choices, if they want to keep their tax breaks (up to $1,000 excluded from income), they should stick to the Vanguard choices.
  • Kansas' Schwab 529 College Savings Plan has the highest fees of any direct-sold plan, Morningstar notes, and its administrator has suffered from executive turnover and regulatory run-ins. Fortunately, the Kansas tax break (up to $6,000 excluded from income) is portable, so residents can invest in any state's plan. Also, Kansas offers another direct-sold plan that Morningstar rated "above average": the LearningQuest 529 Program (Morningstar didn't rate the higher-cost, adviser-sold version).
  • Minnesota's College Savings Plan, administered by TIAA-CREF, is hampered by high fees, but since residents don't get tax breaks (and since the state eliminated the matching grants that once provided an incentive to stay), they're free to go elsewhere.
  • A seventh program that made the below-average list, Nevada's Upromise College Fund 529 Plan, is unusual in that it's tied to a rewards program. People register their credit cards with the program and get rewards from their purchases in the form of money invested in this plan. Unfortunately, fees that are roughly double what similar programs elsewhere charge make the program "a poor value proposition," in Morningstar's words. If you've already got an account, you may just figure you're getting free money, so the fees don't matter as much. But think twice about investing more in the plan.

Finally, a word about adviser-sold funds

About half the money in 529 plans these days was placed there by financial advisers. My hat is off to any adviser who convinces a client to invest for a child's future college education, because that's such an important goal. I don't, however, think it makes sense for investors to pay big sales loads and high continuing expenses for the privilege -- especially if the clients are simply placed into age-weighted options, where all the heavy lifting, from asset selection to rebalancing over time, is done by the fund rather than by the adviser.

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If you are investing through an adviser, take a close look at what you're paying in fees and continuing costs. See whether the performance you're getting, compared with similar options in the top-rated funds, offsets those expenses. I'll venture that it probably doesn't and that you'd be better off in a less-expensive, direct-sold plan. At the very least, ask your adviser why you're not using Virginia's plan.

Liz Weston is the Web's most-read personal-finance writer. She is the author of several books, most recently "The 10 Commandments of Money: Survive and Thrive in the New Economy" (find it on Bing). Weston's award-winning columns appear every Monday and Thursday, exclusively on MSN Money. Join the conversation and send in your financial questions on Liz Weston's Facebook fan page.