Mr. Obama's 529 brouhaha

Americans love their college savings plans — even when the benefits are slim

Rarely does a president flip-flop on an initiative presented in the State of the Union address as quickly as Barack Obama did this week. He reversed himself on 529 college savings plans on Tuesday, which was just seven days after his speech to the nation. Such a political miscalculation is instructive on any number of levels, the most obvious being that the difference between rich and middle-class is not easily defined.

What Mr. Obama initially proposed was to end a major tax benefit provided by 529 plans, which shield earnings on investments from taxes on capital gains and dividends much like a Roth IRA. Some states, like Maryland, also provide additional tax incentives for 529s, but the White House proposal never addressed those, only the federal tax on investment gains.

It was also part of a broader proposal for making college more affordable by increasing tax credits for tuition. That latter approach makes much more sense if the point is to make higher education more affordable for middle class families who can't afford to sock away large sums in 529 investment accounts. After all, as President Obama pointed out, nearly three-quarters of 529 accounts are held by families making at least $200,000 a year.

But here's the rub. While the benefit is enjoyed disproportionately by the affluent (although whether $200,000 should be regarded as the line between wealthy and middle class is clearly in the eye of the beholder), such college savings accounts are broadly popular. In Maryland, for instance, about $5 billion is socked away in either the Maryland Prepaid College Trust or the Maryland College Investment Plan, yet the average size of an investment account is just $20,000.

Maryland's 529 plans have proven a genuine state government success story. They are consistently rated among the best in the nation and have steadily grown in participation and assets. That Free State parents can deduct up to $2,500 annually per account from state income tax has likely helped in that regard.

Even middle-income parents don't care to give that benefit up even if they understand statistically that they aren't getting as much of a tax advantage as the wealthy. The rising cost of college tuition is rightly seen as the enemy, not the possibility that other parents are getting more help from Uncle Sam. No wonder Democrats and Republicans alike were calling on President Obama to reverse course on 529 policy.

One of the ironies of this is that Mr. Obama knows a little something of what he speaks. The president and first lady have already set aside $240,000 in 529 accounts for their daughters, maximizing the tax advantage. This isn't evidence of hypocrisy so much as evidence that when you set tax policies that are not means-tested, the rich get richer, and that includes politicians who made millions on book deals.

It's also reminiscent of the debate over in-state tuition in Maryland's state colleges and universities during Gov. Martin O'Malley's two terms in office. During those years, millions of dollars was set aside to freeze or slow the growth of tuition for Maryland students. That was particularly beneficial for affluent families who would never qualify for financial aid but not necessarily all that helpful to moderate-income families who might not quite be poor enough to qualify for such assistance. Had the same dollars been put in expanding grants to low-income in-state students, the effect would have been quite different, but no one could deny the policy proved politically popular.

Perhaps this was just an isolated miscalculation by Mr. Obama, but it surely doesn't bode well for genuine tax reform. If the public is loath to give up a modest tuition savings benefit — even when it's being switched out for a tax credit that might serve their interests better — how will it react to proposals of far greater sweep? It's the untouchable nature of existing tax credits and rates that have helped make federal tax law so miserably complex and counter-productive.

Meanwhile, it would be nice to hear from the GOP-controlled Congress some plans to address college affordability beyond supporting tax-deductible savings accounts that help fuel rising costs or dismissing Mr. Obama's proposed federal subsidy for community college tuition. Growth in financial aid has not kept pace with rising tuition costs, and one of the results has been an alarming increase in student debt. But even if financial aid is increased or student loans are forgiven, the core problem of rising costs marches on down an unsustainable path.

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