College seems as far off as eternity when you are holding your newborn baby in your arms. But as any parent will attest, time flies and before you know it, you are walking your high school grad through the doors of their first dormitory. Saving for college can seem to be a daunting task and one that’s easy to put on the back burner, especially if you have very young children, financial struggles or come from a family with no college graduates. Most people can’t argue with the value of a college education and as parents, we want the best for our children and that normally includes college. David Autor, an economist with MIT, reports that on average a college graduate earns about $480,000 MORE in their lifetime than someone who has an incomplete or no college education at all! Now that we’re in agreement that a college education is worth saving for, here are some simple ways you can start paving the way for your children’s futures.
1. 529 Plan
A 529 Plan is a special account to invest post-tax money specifically for higher education costs, such as tuition, books and room and board. As long as the funds are withdrawn for education purposes, you will never be taxed on the income and return on your investments. There are over 92 different types of plans to choose from, and you can make changes to which mutual funds you are investing with one time per year. Parents Magazine estimates that if you save $100 per month in a 529 plan from the time your child is born, you could see almost $42,000 in savings by the time they start college, at an average 6% investment return. Time to start saving!
2. Coverdell Account
A Coverdell account is similar to a 529, in that it’s a means to invest education related savings that can be withdrawn tax-free. However, it offers more flexibility in that withdraws can be made for educational purposes as young as kindergarten, not just for higher educational costs. These are great accounts if you plan on private elementary and high schools. The biggest drawback is you can only contribute up to $2000 per year, per child without having to pay a 6% tax on everything above. Additionally, you cannot contribute past the time your child turns 18 and funds must be used by the time they are 30.
3. Prepaid Plans
Prepaid plans are exactly what they sound like: you purchase tuition at today’s tuition rates and can then redeem it in the future when your child is college-aged. These plans are set up by individual states, and often that state will fill in the gap on any inflation that will surely occur between your purchase of the tuition and 18 years later when your child is off to school. Prepaid Plans work best when you use alongside another savings plan, like a 529 so that you are not placing all your children’s college dreams into the hands of a state that may or may not make good on their promises. These are great if your alma mater is the place you intend your children to attend, but they could be limiting if your child chooses an out of state school.
4.Roth IRA
Roth IRA’s are another investment option that has special rules to avoid being taxed as income and on early withdrawals. They have limitations on how much can be invested, depending on your age. If you are under 49, the limit is $5,500 and if you are 50 or older, you can save up to $6,500. You must have opened and used the account for 5 years prior to making any withdrawals to avoid being taxed, and this method of saving is best used for people that start when their children are young. This is not the best way to save fast cash!
5. Uniform Gifts To Minors Act Account (UGMA)
A UGMA account is unique in that it is a custodial account managed by parents, but has assets invested intended for the child. Once the child turns 18 (or 21, check with your state), they become the property of the child. The first $1000 is tax free, the 2nd $1000 is taxed at a child rate and the rest is at the adult rate. One drawback of the UGMA is that its balance is included on worksheets to determining financial aid, so be sure you take that into consideration when the time comes if your child is considering loans.
6.Savings Account
Don’t underestimate the power of just saving and keeping your money in a savings account. Time will continue to pass whether we save or not, so why not just save? If you merely saved $100 per month for 18 years, you would have over $21,000 saved! Don’t avoid saving because you don’t think you can’t save enough to cover 4 years worth. The truth is, you probably won’t be able to if you are an average American (i.e. not a millionaire). However, you are teaching your child the art of saving, planning for their future and being responsible. And $21,000 is nothing to scoff at!
7. Ask for Contributions From Family
There comes a time when your kids just don’t need another toy or game. Even if you feel embarrassed asking for money, holidays and birthdays are a non-awkward way to ask family to contribute to your children’s future by making contributions to their 529 plans in lieu of gifts. Grandparents will probably appreciate your inclusion in their college plans and your kids will enjoy an ugly sweater-free Christmas. You can also provide family with information on setting up their own 529 in your child’s name.