5 College Savings Ideas for Parents
If there is one financial planning goal that tends to sneak up on families, it’s paying for college. Yet helping to cover the cost of higher education is one of the largest expenses most parents face. According to Big Future by The College Board, the annual price tag is $21,447 for an in-state public school and $42,224 for a four-year private institution.
The good news is that there are steps you can take to help make college possible, even if you’re getting a late start in saving. Here are five to consider:
1. Start saving now. The cost of college can be daunting, but even a small amount saved today can impact your child’s funding plan dramatically, especially when compared to borrowing later. That’s because saving now will give your money a chance to grow, while paying interest on a loan down the road will increase the cost of college significantly.
For example, let’s say you plan to cover four years of college (current annual cost of $20,000) for a child born today. To meet that expense 18 years from now, you would need to save $448 per month (from birth) in a 529 plan—totaling $113,000 in contributions, assuming a conservative 5 percent college cost inflation rate and a 6 percent annual investment return.1
What if you decided not to save and instead borrowed the funds? According to SavingforCollege.com, to borrow for the same four years of future costs, your child would graduate owing about $276,383 in loans. This translates into a monthly payment of approximately $2,300 over the next 10 years, assuming a 6 percent loan interest rate.
2. Choose your savings vehicles carefully. Opening a savings account in a child’s name may seem like a great way to save for college. But keep in mind that where you save can have a significant impact not only on the taxes you may owe but also on your child’s ability to qualify for financial aid down the road. That’s because the federal formula that determines how much financial aid a student receives favors money held in a parent’s name over money in a student’s name. Fortunately, there are several options that can help maximize your savings and/or the amount of financial aid your child may qualify for in the future, such as:
- 529 College Savings Plans: These plans, which are considered a parent’s asset for financial aid calculations, allow your contributions to grow tax deferred. As long as the money is used for qualified college costs, withdrawals are also free from federal income taxes.
- Coverdell Education Savings Accounts (ESAs): ESAs, which offer the same tax advantages of 529 plans, enable you to set aside up to $2,000 per child per year (subject to income limits). Unlike a 529 plan, the money in an ESA can be used to pay for a broad range of qualified expenses, including those for elementary, secondary and post-secondary education. However, ESAs may have more of an impact on financial aid eligibility than a 529 plan if the account owner is the child.
- Roth IRA: If your child has earned income from an after-school or summer job, you can open a Roth IRA in his or her name. This enables you to give your child a head-start on saving for retirement; it also enables you to take tax- and penalty-free early withdrawals if the money is used for qualified education expenses.
- Custodial Accounts: Uniform Gift to Minors Act/Uniform Transfer to Minors Act custodial accounts offer a tax break for children under the age of 18. The first $1,050 in investment gains is tax free, the second $1,050 is taxed at the child’s income tax rate, and any further gains are taxed at the parent’s income tax rate. There are no restrictions on how the funds may be used as long as it directly benefits the child. The downside is the account automatically transfers to the child once he or she reaches age 18 or 21, depending on the state.
To learn more about the pros and cons of these and other education funding choices, download a free copy of the Northwestern Mutual white paper, “Save For College With Confidence: Your Guide To Education Funding.”
3. Don’t overlook merit-based aid. Many families don’t fill out the Free Application for Federal Student Aid (FAFSA) because they believe they make too much money for their child to qualify. This can be a costly mistake. Many colleges offer merit-based aid that’s determined by your child’s achievements rather than financial need. However, to qualify you need to complete the FAFSA form.
Don’t forget to also search for scholarships, which come from a variety of sources such as the college, your community, local religious and civic organizations, corporations and contests. To help you find these, Financial Aid Finder offers a list of available scholarships.
4. Take advantage of reward programs. Increasingly, there are programs available that allow you to build tuition credits and other rewards to help pay for college. One of these is the Upromise credit card, which provides money back when you dine out, fill up on gas, shop online and more. In many cases, those rewards can transfer directly to your 529 plan.
5. Enlist friends and family. If there is anyone who typically gives your child a gift, try suggesting a contribution to your child’s college fund instead. Your family and friends may be pleased to help in giving a loved one a solid educational footing for the future. And of course, giving to a child’s education can be rewarding for the donor as well. Many states permit tax deductions for funding a college account even if the child isn’t your own.
While the cost of college may seem overwhelming at first, there are countless ways families can cover some or all of the cost of higher education. In fact, most families (57 percent) use multiple vehicles to fund college costs, according to a Sallie Mae report. To learn more about those options, contact your financial representative.
1The assumed 6% rate of return is not guaranteed; additionally, all investments carry some level of risk, including the potential loss of principal invested.