An arm. A leg. 100 years of financial non-solitude.
Yup, that’ll do it — that’s what it’ll take to start your child’s college fund, likely including a car, healthcare, laptop and the endless dorm supplies college kids require these days.
Picture your precious pipsqueak fully grown and overwhelmed by choices for majors. No, too hard — better to leave them in diapers and ironic baby shirts that say, “Awesome like Mommy.” The good news is you have time to prepare for the college days ahead.
But how much should you set aside for your child’s future? What should you do with that money, and how do you grow it?
Use this guide to judge which plan works for you and tailor it to your child’s advantage while optimizing your investment.
(Please note that this article is US-specific and some payment plans may not apply to readers based in the UK or outside of the United States.)
The 529 Plan is like having a state-sponsored, tax-free piggy bank. For those who want a hands-off approach, try allowing an agency in your state to invest money into mutual funds. Monthly automated payments make it an easy, “set it and forget it” option.
As long as the money is spent on college-related costs, such as tuition and course materials, you don’t owe the government anything on the earnings. If you are living in the US, the state may allow a tax break, and you can place up to $300,000 in the account in many states. If your first-born doesn’t use it all, your plan may allow for a new beneficiary — your second child may have access to the funds for their education. However, the money can only be used for higher education, or you pay a 10 percent penalty. There are maintenance and other fees to consider.
When colleges award financial aid packages, they consider the 529 plan as your asset and not your child’s, which means their package may include more grants and scholarships.
Cloverdell Education Savings Accounts (ESAs)
Cloverdell Education Savings Accounts (ESAs) allow you to contribute tax-free dollars toward their college education, but you can also utilize the funds for early learning costs, such as elementary, middle and secondary school costs, tutoring and after-school programs.
ESA accounts continue growing without tax penalties, and you can withdraw funds tax-free, making changes as often as you need. Similar to a 529, the ESA is a parental asset, and your child is likely to receive more grant money without it impacting their financial aid. The account can also switch beneficiaries to other children, but the downside is you can only contribute $2,000 a year for each child, total, for all ESA accounts. Higher income limits exist, and all contributions must be made by the time the child is 18 and used before they turn 30.
Where a 529 plan and ESA are considered parental assets, custodial accounts are in your child’s name. The parents remain in charge of the account until the child is 18, which may be opened at any bank with no contribution limits and spent on anything as long as it’s for the child. When they turn 18, the student can use the money however they want.
With flexibility comes some cons. There are limited tax benefits — the first $950 invested is tax-free, and withdrawals and account funds beyond that are taxable. As a student’s asset, the custodial account could reduce the number of grants in your child’s financial aid package.
US Treasury Bonds
US Treasury Bonds are the traditional go-to gift from grandparents to their grandchildren as a safe investment for the child’s financial future, since the bonds are backed by the government, and parents often consider US Treasury Bonds to be a safe investment toward a child’s education.
Is it worth it?
You can purchase the bonds for as little as $25, and they can earn interest for a 30-year period, not to exceed $10,000 in interest.
The downside is that these bonds, no matter their stability, won’t keep up with the skyrocketing costs of tuition as it raises annually. The returns are low. Consider a Series EE bond with an interest rate of 0.1 percent, whereby if you invest $100, the return is a penny annually.
Any earned interest remains exempt from local and state income taxes, and if used for tuition costs, you don’t pay federal taxes if beneath income limits. However, you must wait to redeem the bonds, and you have to remember where you put them.
Calculating How Much to Save
The savings account type and plan your family chooses will be unique to your needs and those of your child, which may shift as college costs rise, and your child decides what their dreams are and where those will take them.
According to The College Board, the average tuition cost in the US was $9,970 in 2017 for full-time students in state at public four-year colleges and universities. That number was $300 more than the prior year at 3.1 percent before inflation adjustment.
For public four-year out of state institution, the average cost for students annually was $25,620, up by $800 from last year. A private nonprofit four-year institution cost students $34,740 on average annually, up by $1,220 from the previous year.
Keep in mind that there are other costs and considerations. Tuition varies by major, and there are fees for services, health insurance, textbooks, housing, meals and room and board. For example, the average cost of room and board for the 2017-2018 school year varied from $10,800 at public four-year schools to $12,210 at private four-year schools. A budget should also be established for personal needs and bills, if you wish to help out there.
Inflation rates provided by statistics help track college costs when calculating how much to save, but multiple needs and additional fees must be considered. Ultimately, the amount won’t be exact, but online college savings calculators will get you close, while including important factors, such as room and board and personal bills.
Other tools help you track the total annual cost of specific schools, if you have your eye on Harvard University, for example — with a total annual cost of $66,858 including tuition, fees and room and board, but no grants or scholarships. You can also see the average percent of grants awarded and how much the total may cost over four years. Your best bet for calculating how much to save for your child’s future is to use various tools and calculators to your advantage. Consider factors outside of tuition, and know it may be wise to start a 529 plan or ESA with the addition of having a custodial account and US Treasury Bonds as supportive measures.
Think of saving for their future like planning a war strategy — you’ll need multiple forces and tactics to succeed, but succeed you will! You’ll also save an arm and a leg.