A college education can be one of the most important investments you ever make. But the benefits of your child’s increased earning power and expanded horizons come at a price — college is expensive.
Many families finance a college education with a combination of resources, but your savings are the cornerstone of any successful college funding plan. So it’s important to start saving as soon as you can.
For 2018/2019, average costs for tuition, fees, room, and board are:
- $21,370 — public college
- $48,510 — private college (many private colleges cost substantially more)
Source: College Board, Trends in College Pricing 2018
Where should you put your college savings? There are many options to choose from:
- 529 plans
- Coverdell Education Savings Accounts
- Roth IRAs
- Mutual funds, stocks
- Savings accounts, money market funds, CDs (These may be a good place to park your short-term savings, but their relatively low rates of return make it hard to keep up with college inflation)
Choosing the right college savings options involves taking into account your income, time horizon, and risk tolerance, along with your personal preferences on issues like tax benefits, investment control, and flexibility on use of funds. The following table compares some common savings options.
| 529 plans | Coverdell ESAs | Roth IRAs | Mutual funds
& stocks |
|
| Open to anyone | Yes | No | No | Yes |
| High or no contribution limit | Yes | No | No | Yes |
| Full investment control | No | Yes | Yes | Yes |
| Tax-free earnings | Yes* | Yes* | Yes** | No |
| Flexibility | No | No | Yes | Yes |
| Counted for financial aid purposes | Yes | Yes | No | Yes |
* Earnings are tax-free only if the funds are used to pay the beneficiary’s qualified education expenses. If the funds are used for a different purpose, then earnings are taxed at the income tax rate of the person making the withdrawal and are also subject to a 10% federal penalty.
** Earnings are tax-free if the withdrawal is made after age 59½ and a five-year holding period is met; the funds do not need to be used for college to be tax-free.
When saving for college, you should consider tax-advantaged strategies. 529 plans, Coverdell Education Savings Accounts, and Roth IRAs offer federal tax advantages when used to pay for college, as noted in the table above. Another tax advantage is the Education Savings Account Contribution Credit (or Subtraction) provided by the State of Minnesota that began in 2017. Minnesota allows a credit of 50% of contributions made to a 529 plan during the year, up to a maximum of $500 – subject to phase-outs based on income limitations. You can claim this credit regardless of the owner or the beneficiary of the account. If you are phased out of the credit, you can be eligible for up to a $3,000 subtraction for your contributions.
Why is starting early important for college saving?
College can be one of the most expensive costs associated with your children or yourself. Although there is opportunity for financial aid (FAFSA program) or scholarships to reduce tuition fees, the investment can still be significant.
The earlier you start saving, the more opportunity you have for your money to grow tax free, with the use of various college savings options. Saving in advance can also reduce the need to take out student loans when enrolling in college. This can allow you to avoid a considerable debt burden that can last for years after graduation, including associated interest expenses.
What sort of cost-benefit analysis should I do before enrolling in college?
As a child you are asked: “What do you want to be when you grow up?” This question becomes important as you are debating enrolling in courses. The answer to that question can determine what type of degree, if any, you will need.
Economic factors to consider can be the demand of the industry – can you get a job after you graduate? You can also look at the median earnings of these careers after graduation and see if the tuition expense will outweigh the income benefit. Keep in mind that the “sticker price” of college is not always accurate. Do your research to understand exactly what the cost of your degree will be.
There can also intangible benefits to going to college that cannot be measured, such as personal connections made while attending, mentorship, and the development of social and networking skills. It is important to consider all factors when deciding if college is the right choice for you. If you have questions relating to how to save for your child’s (or your own) education, talk to your tax professional or contact one of our experts today!
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