What is the best way to save for your kid’s college? There are a lot of options, and as tuition prices increase, it’s important to make the right choice. In this video, we share questions to consider and options available to you.
Hi everyone, and welcome back to the channel. I’m Jake Turner, Associate Financial Planner here at Financial Design Studio. Today we are going to cover College Funding! Should you save? How to save? And, if you’re a parent or guardian, where should you save for future education needs?
Before we dive into this content, I wanted to alert you to some other great content that we have linked below in the description of this video. We have some great videos and articles specifically around the FAFSA and how to ensure you are maximizing all assistance that you are eligible for from the government. So please take a moment to peruse that content if you’re interested after you finish this video, as we will not be going deep into the FAFSA here today.
Should You Fund Your Kid’s College?
When thinking about how and where to prioritize saving for your children’s education as an overall part of your financial plan, it’s important to understand all of the potential implications. Think about the likelihood that your child or children will attend post-secondary schooling. They might receive education at places such as trade school, traditional college, graduate school etc. After that think about how much support you would like to provide for this education.
Do you want to ensure that you can fund 100% of your children’s tuition and work and board expenses? Is there a number that you would like to save for each child? Is that number $10,000, $30,000, $50,000? What is the likelihood that your child will be able to get other support such as grants or scholarships? All of these factors are important. They will help you decide how much money you are going to earmark for your child’s future education needs.
Now when it comes to saving for future education needs it’s important to understand where this fits in order of priority with your other financial goals. You would still want to prioritize having an adequate emergency fund. Make sure you have enough set aside to cover any and all deductible’s. And, don’t stop contributing at least enough to get a match in your workplace retirement plan, maxing out Roth IRA, etc.
When we think about college funding, you should be saving adequately first for your own retirement. Then, you’re now at the point where you are looking to pre-pay for future expenses. College expenses would fall into this category.
Why Should You Start Early?
So let’s say that you are at the point where you’re saving 15-25% or your income for your future self and your own financial well-being. Then you are in the fortunate position with some excess that you’d like to start funding college for your child. Like any investment, the sooner you can get the money invested and growing the better. Let’s look at a simple example:
If you invest $10,000 the day your child is born, and then nothing else until the child is 18, you would have nearly $40,000 if it grows at an average of 8% per year. Let’s say you invest that same $10,000, but not until the child turns 10 years old. When the child is 18, that money is only worth $18,500 with the same rate of return. You can see what a huge advantage that starting early will give you.
Where Should I Save Money for College?
Now that you’ve decided that you do, indeed want to help your kids with some money for college, what are the best ways to do this and where do you save? There are many options, but one of the most common and most advantageous is the Section 529 plan.
A section 529 plan is a program that allows taxpayers to either prepay or contribute to an account that will pay students qualified education expenses at an eligible educational Institution. Anyone can participate in a 529 plan regardless of the age of beneficiary. There are no income restrictions on the individual contributors 529 plan, and distributions can come out tax free when used for qualified education expenses. Contributions to this plan are not deductible at the federal level, but many states do offer some sort of tax deduction at the state level for contributions to the 529.
Like any investment, depending on where you open your 529 account, there will be a menu of investment options that you will need to select based on your goals, time horizon, and risk tolerance. One final advantage is that when applying for financial aid for the student, the 529 assets are counted as an asset of the parent.
This is important because in the expected family contribution formula (EFC), parent assets are only counted at 5.64% while student assets are counted at 20%. Remember that the higher the EFC, the lower the amount of financial aid that will be awarded. Again, go back and watch the video about financial aid and FAFSA if you want to dig into this further.
Other Savings Tools
Other education funding options:
- UGMA/UTMA accounts. These are custodial accounts for the benefit of a minor. This would be where the minor is named as the beneficiary of the account. Since distributions from these accounts don’t have to be used for education purposes, you may favor this type of account. Especially if they are not sure that the child will have the need for additional education in the future. One disadvantage to this account, is that the beneficiary cannot be changed like it can in a 529 account. Once the child reaches the age of majority, the account is theirs. They can do whatever they want with money.
- Series I or EE savings bonds. These are traditional savings bonds issued by the US Treasury. There are limits on how much you can purchase each year, $10,000 per year, per owner. The income from the bonds is tax-deferred at the federal level and tax-free at the state level. But, there are some income phase-outs to be aware of. When you use these bonds for qualified education expenses, and the owner’s MAGI is below certain limits, the interest from these bonds is tax-free.
Next Steps for Funding Your Kid’s College . .
- Ensure you have your own financial future taken care of first. Figure out where planning for college fits into your financial plan
- As a family, decide how much or what percentage of your child’s college education that you would like to help pay for.
- Consider a 529 plan for the tax free growth and flexibility to change beneficiaries in the future if needed, as well as the new options that SECURE 2.0 gives to left over monies in 529 accounts beginning in 2024. But more on that later.
If you would like to learn more about saving for college, check out our website. We’ve written extensively on all topics around college planning and funding. You can explore our rich catalog of YouTube videos to help provide you with further education.
Finally, if you’re interested in connecting with a fee only CFP professional, please reach out! We look forward to working with you!
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