Saving for college: College savings plans
Empty your nest, not your bank account
We all know the importance of saving for college. Without a college education, our kids could be at a great disadvantage later in life. But the skyrocketing costs of a college education are enough to make anyone feel a little faint. With a little planning and foresight, a great college education is actually within reach.
Yes, those costs keep going up
So how much are college costs increasing? The Bureau of Labor Statistics states that college tuition and fees in U.S. increased at an average rate of 4.9% per year, with a total increase of 63% from 2006 to 2016.1
That’s just the tip of the iceberg
But that's not all! Tuition, fees, room and board are just part of the costs that will be incurred. As you begin looking for schools and weighing costs, you’ll need to think about computers, books, dorm furnishings, travel, entertainment and laundry. And that’s not counting the million other ways your college-aged kids will find to spend your cash. So, if sending your child or children to college is in your plans, you need to begin setting aside money immediately.
Get the government on your side
The government has a number of programs and tax laws to make saving for college easier. These are only a few examples. You should make every effort to learn as much as possible before making any decisions. A few popular options include:
529 Plans – These state-sponsored investment plans provide tax deferred earnings and income tax-free withdrawals (for qualified expenses). In addition to tuition, room and board, the money can be used for other expenses, such as books and supplies. Some state plans even allow you to deduct contributions from state income taxes. If the account’s beneficiary (your child) decides not to attend college, you may be able to put the money towards another family member’s education; otherwise, it could be taxed at your normal rate.
You should consider the investment objectives, risks, and charges and expenses associated with municipal fund securities before investing. More information about municipal fund securities is available in the issuer's official statement. Read the official statement carefully before investing.
Before investing in a Section 529 plan, you should consider whether the state you or your designated beneficiary reside in or have taxable income in has a Section 529 plan that offers favorable state income tax or other benefits that are only available if you invest in that state’s Section 529 plan.
Coverdell Education Savings Account – This account provides tax-deferred earnings and income tax-free withdrawals (for qualified expenses); but participants must meet specific income requirements and you can only contribute up to $2,000 annually. The fund is transferable to another child if a first child does not go to college; however, taxes and penalties may apply if it’s not used for college.
Uniform Gifts (or Transfers) to Minors Act – These allow you to transfer up to $15,000 a year (limit for 2020), without triggering the gift tax, to an account held in a child’s name; although you are the custodian. The money is no longer part of your taxable holding; so, technically, it can reduce your income tax bill. Realistically, though, the gift must be sizeable for any real tax benefit. It should also be noted that in some instances the child may have to file tax returns for taxes due (the kiddie tax). Also, it can’t be taken back; so the child can use the money for anything – not necessarily college – once he or she reaches adulthood. Rules vary by state and are dependent on state law.
Other federal government tax credits, such as the Hope Scholarship Credit and the Lifetime Learning Tax Credit, may be available subject to certain income requirements.
However you choose to save for your children’s education, your may want to choose an investment strategy consistent with their age and number of years until college – more aggressive during their early years, when you have more time for money to compound and grow, and more conservative as the child approaches college age. You may wish to consult with your financial professional to develop a strategy that best meets your family’s needs.
Consider a helping hand
Financial aid, loans, and athletic and academic scholarships can help lighten the load. Other sources of aid include work-study programs, merit awards for academic achievement, awards for involvement in various student activities and assistance for disabled students. Contact each school for its specific programs and policies.
Think about life insurance
The death of a parent sometimes cuts off money that was to be used to put children through college. Life insurance death benefits can be used to help pay children's education expenses if a parent dies early. Loans and withdrawals from cash value policies can also help with tuition needs. College aid forms generally do not include the value of a life insurance policy when calculating financial aid. Policy loans and partial withdrawals may vary by state, generate an income tax liability, reduce available surrender value and death benefit or cause the policy to lapse.
Secure their future without risking your own
If possible, you may be able to develop a strategy that avoids paying for college by withdrawing from your retirement savings or taking out a home equity loan. Both of these could land you in hot financial water as retirement approaches. So remember that there are other approaches. With a little preparation, you may be able to have a broader range of schools from which to choose to send your kids. Maybe that can even include the school of their dreams.
This material is provided for general and educational purposes only; it is not comprehensive nor intended to provide legal, tax or investment advice. All investments are subject to risk. We recommend that you consult an independent legal or financial professional for specific advice about your individual situation.
The tax information herein is not intended to be used, and cannot be used by any taxpayer, for the purpose of avoiding tax penalties. Taxpayers should seek advice based on their own particular circumstances from an independent tax advisor.
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1 Bureau of Labor Statistics, U.S. Department of Labor, The Economics Daily, College tuition and fees increase 63 percent since January 2006.