Obama's 529 Mistakes

President Obama's proposal to tax earnings distributed from 529 college plans derived from future contributions is one of the worst ideas he's had in tax policy.  He would make withdrawals derived from earnings on new contributions taxable to the student (although withdrawals derived from earnings on funds already contributed would remain tax-free).  Let us count the ways this makes no sense.

Defies Tax Logic.  The redistribution of income through a progressive tax structure is a concept that virtually all Americans agree on, including many who are very wealthy.  However, Obama's 529 proposal creates a much smaller redistribution loop consisting of college students (and perhaps indirectly their families).  Students from more prosperous families will pay taxes that will subsidize students from less well-off families.  Why have a redistribution loop consisting of only the student community?  If that makes sense, why not have wealthier farmers subsidize less wealthy ones?  And why not have higher earning servers and bartenders (e.g., those at high end restaurants and hotels)  subsidizing the employees at Mickey D's.  Since college educations are so important to America's future, subsidies for middle-class and less fortunate students shouldn't come at the expense of other students who, through no choice of their own, were born into more prosperous families.  If redistribution of income is a societal goal, it shouldn't be done in a distorted way like this. 

Bad Social Policy.  Having children and raising them well is beneficial for America as a nation.  A healthy birth rate is crucial to America's future success as a nation.  More prosperous families are better able to afford to have children and raise them well.  The extremely low birth rates in Japan and Europe have seriously impaired the economies--and futures--of those nations.  Disincentives to have and educate children shouldn't be built into the tax code.

Bad Trickle Down.  Obama's 529 proposal effectively raises the cost of college for students from more prosperous families.  It defies economic logic to believe that won't have consequences.  Some students might lose opportunities when this happens.  Let's take this hypothetical example to see how that could work.  Valedictoria, a brilliant high school student from a well-off but not rich family, might barely be able to afford the unconscionably high costs of an Ivy League school if 529 plans remain unchanged.  But she would opt for a less expensive school (the well-regarded University of Home State) with the Obama changes because she doesn't want to or can't take on the additional debt required for the Ivy League (and wants to spare her parents that burden).  She opts for the less expensive school.  Her enrollment there could bump out a student who was marginally able to gain admission to the University of Home State.  The marginal applicant then goes to a less-well regarded school, perhaps losing educational quality and opportunities he might have had at the University of Home State.  Is the nation somehow better off if this happens?

Punishes Self-Sufficiency.  The people who fund 529 plans are the kind of people who, in past generations, would have been viewed as good citizens prudently saving for the future education and improvement of their children.  They hope not to rely on handouts or loans or governments to finance their childrens' educations.  They'd like do it themselves, thank you.  Indeed, self-sufficiency was once regarded as one of the most golden of American virtues.  In a land where there were many opportunities, but also many hazards, the self-sufficient were the bedrock and pillars of a growing nation that wanted to keep growing.  To be self-sufficient, you necessarily have to build your wealth.  Why penalize self-sufficiency by taxing college savings?   We have become a nation obsessed with instant gratification, the faux celebrity status offered by social networking, easy credit for all, and bailouts for almost every need imaginable.  Will discouraging self-sufficiency improve things?