It’s easy to forget about your child’s education savings as time goes on. The best way to ensure you reach the financial goal of affording college is to set a smaller financial target each month. You won’t always make that goal—life happens. However, you’ll do a better job of regularly saving if you know what your monthly targets are.
In order to set your goal, approximate the costs your child (or children) will incur going to college. Decide how much of that you could reasonably cover. It’s best to do both these steps with a financial advisor. Then, divide the amount you want to save by the number of months until your child starts college. Remember that this is just a target, and interest should help you even when you miss months.
Consider Your Account Carefully
There are a variety of accounts you can choose as your child’s education fund. Each has its own drawbacks and benefits. Two of the most popular options are:
- 529 Plans: These are dedicated plans designed by the IRS to serve as education funds. They grow tax free and withdrawals from them are tax-free if used for qualified expenses. Your child doesn’t have control over the money, which is useful if you’re worried about their ability to make strong financial decisions. Unlike other options the 529 doesn’t set income limits (require you to make under a certain income to use it). The funds are considered as the account holder’s when applying for financial aid.
- Coverdell ESA: Like the 529, withdrawals are tax free if used for qualified expenses. The contribution limit is $2,000 per year. There are phase out limits and the funds must be used by age 30. The funds are considered as the account holder’s when applying for financial aid.
- UGMA/UTMA: Like the 529, thee are no income limitations and funds may be withdrawn at any time for any purpose. Withdrawals are taxable usually at the child’s tax rate. Funds must be used by the age of majority. Funds are considered the child’s when applying for financial aid. This is a draw back.
- Permanent Life Insurance: Withdrawals may be tax free and for any purpose. The parent is the account owner. The advantage is that the funds are not counted as assets for financial aid. There are no contribution limits. In case of pre-mature death the account is self-completing.
There are many options for education savings accounts. Which is best for your circumstances? It’s wise to talk to a financial advisor before you make a final decision.
Don’t Fret About Aid Limitations
Some parents worry that saving up too much will mean their child won’t qualify for financial aid. This could be true if the future college student will be a high need/low merit or a high merit/high need student. Saving in the right type of account as well as titled correctly will increase financial aid help.
Three Step Process
Many families and students incorrectly go through the college planning process. They shop for a school first then figure out how to pay for it. This results in students and parents being overly burdened with student loan debt after graduation.
There are three steps in proper planning for college costs. The first is to determine the amount of personal resources available. This includes 529’s, grandparent’s help and cash flow.
Second, establish the maximum amount of total student loans over the four years. An excellent rule of thumb is that the student should have no more loan debt than the first year starting salary in their chosen field.
Third, shop for schools that fit your budget, not the other way around. Look at the net cost after aid.
Don’t Sacrifice Retirement
Speaking of sacrifice, it’s more important to meet your retirement goals than your child’s educational savings goals. Your child will have loans, scholarships, and financial aid to help them meet their goals. However, you won’t have any such support when it comes time to retire.