Do you have children or grandchildren that will be going to college? Are you saving for your college expenses? What used to work for older generations may not work as well today. If you are around 40 years, old chances are your parents saved for your college in a savings account or maybe a brokerage account that was taxable to either you or your parents. If you were lucky maybe you had a wealthy set of grandparents who paid for your college expenses. But in today’s world we have 529 savings plans that are offered by just about every state. These are very important savings tools for college are inflation has averaged about 3% a year over the last 30 years and over the last decade college expenses have experienced inflation of anywhere between 5% and 10% a year. An old fashion savings account no longer will make due, and 529 plans are the answer.
Before we examine the basics of the 529 plan let’s get rid of some common misconceptions many people have about college and their children. First save like your child will not be receiving a full scholarship as that is very unlikely to happen. It is better to save like there will be no scholarships for your child and experience a windfall rather than to have saved too little when it comes time to pay for the college expense. Also, it is a wise move also to save as if you will not be able to cover the entire cost of the education with financial aid. The reason for this may be two fold, one parents have no business financing a child’s education as they are closing in on retirement and second many do not want to burden their children with large amounts of debt in today’s strengthening economy. And finally it is imperative that before you save for college expenses that you have a written and well thought out plan for your college investing. Sallie Mae released a study that concluded that those who had a savings plans saved on average 80% more than those who saved without a plan. That is a difference that cannot be ignored in my opinion.
So what is a 529 plan? Simply put it is a state sponsored savings plan that offers investment choices similar to that of a 401(k) plan. A 529 plan allows you to make contributions for a child that will grow tax deferred over the child’s life until they reach college age and start to spend the funds on qualified college related expenses. And if the expenses are indeed qualified all the proceeds paid will be federally tax exempt and state tax exempted as well. In many states, they offer tax deductions if contributions are made in that state’s 529 plan. In order to ensure maximum benefit consult a tax advisor or financial planner. If you or someone, you know wished to make a gift contribution to a child they may contribute up to $14,000 without counting towards someone’s gift tax. Grandparents can even contribute up to five years’ worth of gifts at one time provided they do not make any additional contributions for a full five years. And with split gifting that amount can be doubled to $28,000 a year.
The main differences between 529 plans can be in investment choices offered from state to state and how the investment is structured. As not all state’s plans are the same, it is wise to compare them for historical returns, structure, and fees associated with the investment choices offered. Fees can be a large portion of an investment’s return so does not assume all things are equal as chances are they are not. Again consult a professional to ensure you can expect the best returns and tax incentives available. Also, with your investing plan it is wise to decide your risk tolerance level as well. Based on your risk tolerance, your investments will be based on age or more on investments. A portfolio based on age will adjust as the child gets closer to college age and thereby more conservative in nature. But do not assume all of the age based portfolios are comparable as some will rebalance and change investments more than others. Research is essential here as in with fees so make sure you understand the entire investment before you put your money into something.
Saving for college is important indeed but not something to be done without thinking and some research. Just as with your retirement accounts you need to understand what it is you are investing in, the fees associated with the investment, and the risks involved. And you should always have a written plan no matter what type of investing you are doing to ensure you can maximize your return while monitoring your risks. For more information feel free to contact me.
