Brokers May Profit at 529 College Savers’ Expense

Drs. Raquel Meyer Alexander and LeAnn Luna, both assistant professors of accounting at UNCW's Cameron School of Business, presented their findings Nov. 9 in Wilmington and offered recommendations that can help the public. They also presented the study Nov. 14 at the National Tax Association Conference in Minneapolis.

Taxpayers have invested more than $54 billion in tax-deductible Section 529 state-sponsored college savings plans, a figure expected to rise to $400 billion by 2010. Yet these funds are not regulated by the Securities and Exchange Commission, and they have been criticized for high management fees and lower returns. Congress, the SEC, and the National Association of Securities Dealers (NASD) are investigating unethical sales practices.

After examining 77 Section 529 plans in 50 states and the District of Columbia from 2001-2003, Alexander and Luna find that investors are choosing high fee funds, and plans with high fees have more accounts and more assets. At the same time, investors are ignoring state tax benefits and plans in states offering tax deductions have fewer investors.

The reason for this is that with a lack of disclosure of fees and historical return data, investors rely on securities dealers for fund recommendations.

Alexander and Luna conclude that with limited investment choices, few plan administrators and incomplete financial disclosures, 529 markets may be inefficient. Investors may not be aware of state tax deductions available through an in-state plan.

In addition, investors may not be told about the direct-invest plans that have lower fees. Therefore, to the extent that 529 plan contributors are sold high fee funds, policy makers should be aware that the federal and state tax subsidies may be accruing to the mutual fund distributor and the brokers, rather than to the taxpayers.

Alexander and Luna recommend that investors check in-state plans for possible state tax benefits. Check to see if the plan can be purchased directly from the state without a broker. Investigate total fees, and consult an independent source for plan ratings.

A summary of the report can be downloaded at http://www.uncw.edu/news/pdfs/529study.pdf. Photos of Alexander and Luna, suitable for reproduction, can be downloaded at uncw.edu/news.