Trust Fund vs. 529 Plan: Pros and Cons for Education Savings

Both trust funds and 529 plans can power education savings, but they serve different purposes and each comes with its own set of rules. A 529 plan provides tax-advantaged growth specifically for education expenses, with funds growing tax-free when used for qualified educational costs. These plans are relatively straightforward to establish and maintain. Trust funds, on the other hand, offer greater flexibility in how the money can be used beyond just education. Trust funds also provide more control over when and how beneficiaries access funds, but are relatively complex and costly to set up and maintain.

A financial advisor can help you compare trust fund and 529 plan options, and choose an approach that fits your goals and financial situation.

What Is a Trust Fund?

A trust fund is a legal arrangement that allows a third party, known as a trustee, to hold and manage assets on behalf of a beneficiary. These financial vehicles offer significant flexibility and control over how and when assets are distributed. Trust funds can hold various types of assets, including cash, investments, real estate and business interests.

For those with substantial assets or specific wealth transfer goals, trust funds offer customized solutions that standard wills cannot provide. They’re particularly valuable for protecting assets for minor children, providing for individuals with special needs or managing complex family dynamics. Setting up a trust fund requires careful planning and legal assistance, but the long-term benefits for wealth preservation and transfer can justify the cost.

Pros and Cons of Using a Trust Fund for Education Savings

A couple meeting with a financial advisor to develop an education savings plan.

When considering trust funds for education savings, families should weigh several important factors. Trust funds offer unparalleled flexibility. You can set specific conditions for how and when funds can be used beyond just education expenses. This customization extends to controlling disbursement timing and potentially protecting assets from creditors.

However, trust funds come with notable drawbacks. The setup and maintenance costs can be substantial, often requiring attorney fees and ongoing administrative expenses. Additionally, trusts typically involve more complex tax considerations than other education savings vehicles. You may have to pay more in taxes, as trust income is generally taxable.

For families with large assets or special situations, like a child with special needs, trust funds may be worth considering. They offer control and flexibility but can be complex and expensive. A financial or legal advisor can help you decide if a trust fits your education funding plans.

What Is a 529 Plan?

A 529 plan is a tax-advantaged savings vehicle specifically designed to help families save for future education expenses. These state-sponsored investment accounts offer significant tax benefits. Advantages include tax-free growth on investments and tax-free withdrawals when funds are used for qualified education expenses such as tuition, books and room and board.

One key advantage of 529 plans is their flexibility. While traditionally used for college expenses, recent legislation has expanded their use to include tuition for K-12 education, costs for apprenticeship programs and student loan repayments (up to a $10,000 lifetime limit). Additionally, if the original beneficiary doesn’t need the funds, you can change the beneficiary to another family member without tax penalties (and also roll up to $35,000 into a Roth IRA for the beneficiary).

Most states offer their own 529 plans with varying investment options and potential state tax benefits for residents. However, you’re not limited to your home state’s plan—you can choose any state’s program that best meets your needs. When considering a 529 plan for your family, it’s worth comparing different state offerings to find the optimal combination of investment options, fees and potential tax advantages.

Pros and Cons of Using a 529 Plan for Education Savings

A 529 plan can offer significant benefits, but they do come with limitations. Funds must be used for qualified education expenses to avoid penalties and taxes on earnings. Investment options are typically more restricted than other savings vehicles, with limited ability to adjust investments. Additionally, these accounts may impact financial aid eligibility, as they’re considered parental assets in the financial aid formula (note that accounts owned by grandparents are not counted here).

Before committing to a 529 plan for education savings, weigh these advantages and disadvantages carefully against your family’s financial situation and educational goals. The right choice depends on your tax situation, timeline and how certain you are about your child’s future educational needs.

Tips to Help You Save for Your Child’s Education

Planning for your child’s educational future is one of the most important financial commitments you’ll make as a parent. Whether you’re considering a trust fund, a 529 plan or another savings vehicle, having a clear strategy can make a significant difference. Here are four common tips to help you get started:

Start saving as early as possible: Compound interest helps your savings grow faster over time. The earlier you begin, the more time your contributions have to build on themselves.
Take advantage of tax-advantaged accounts: Options like 529 plans offer tax-free growth and withdrawals when used for qualified education expenses. These tax benefits can significantly increase your savings potential compared to regular investment accounts.
Involve family members in the saving process: Grandparents, aunts, uncles and other relatives can contribute to education funds instead of traditional gifts. Many education savings accounts allow multiple contributors, creating a community approach to funding your child’s future.
Regularly review and adjust your savings strategy: As your financial situation changes and as your child approaches college age, reassess savings goals and contribution amounts. Staying flexible allows you to respond to changing educational costs and your financial capacity.

Bottom Line

A man reviewing a 529 plan for his children.

Trust funds and 529 plans both help families save for education. Trust funds can be used for any purpose, not just school, which helps if plans change. A 529 plan gives tax-free growth and withdrawals when used for education costs. The right choice depends on your finances, how much control you want, and what you expect your child will need.

Financial Planning Tips

A financial advisor can help you create a plan to save for college and other milestones. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
If you want to build up savings consistently, consider setting up automatic transfers from your checking to your savings accounts. This approach could help you make saving a routine part of your financial life.