Sooner or later, most parents hoping to send their children to college must face a harsh reality: It's going to take a boatload of money to pay for four years or more at a top-flight college or university.
This is especially true as the cost of a higher education continues to outplace inflation, according to the College Board. It's not unusual for tuition and fees at an elite private college to exceed $40,000 a year.
If you hope to save some, or all, of that hefty sum, you'll need to start early. Even then, you'll have several options in terms of how to proceed. One of the foremost authorities on college savings plans is the Financial Industry Regulatory Agency (FINRA), the largest independent regulatory agency in the country. Here's a summary of four tips from FINRA:
1. Understand the tax benefits. You may be eligible for tax breaks, on both the federal and state levels, that can help defray the cost of saving for college. For instance, FINRA points out that contributions made to a 529 college savings plan can grow tax-deferred while withdrawals are tax-free if they are used for qualified education expenses. Similar advantages are available for a Coverdell Education Savings Account (CESA), but contribution limits are much lower than for a 529 plan. Also, all 529 plans allow you to maximize the usual gift-tax exclusion ($14,000 for 2017) by making five years' worth of contributions in one year.
In addition, many states allow you to deduct part or all of your contributions to a 529 plan if you're a resident of the state sponsoring the plan—a good reason to check out your own state's plans before sorting through those of other states. Finally, note that parents may be eligible for a federal tax credit or tuition deduction in years they pay higher education expenses, although these tax benefits are phased out for upper-income taxpayers.
2. Examine fees and expenses. Most of the time, you get what you pay for, but you should ensure that any college saving option with high costs would outperform the lower-cost options. FINRA emphasizes that even small differences in fees and expenses can translate into a big difference over time. This applies to various expenses relating to many 529 plans as well as mutual funds or stocks purchased through a CESA. For mutual funds, check the fee table in the prospectus to see how the costs can add up. If you invest in stock, understand the method used to determine commissions and factor them into any gains you may realize.
3. Know the risks and the rewards. Compared to saving for retirement, your college-saving timeline is relatively short. Therefore, the ability to recover from a sudden market decline is reduced. Spread savings over many types of investments so that your entire college fund won't get wiped out if one sector or asset class—such as stocks or bonds—falls.
4. Carefully evaluate any college saving vehicle, and its investment options, before you invest. Some options with higher rates of return may include risks that are beyond your comfort level and don't match up to your goals. As usual, diversification is recommended. To learn more about the investment strategies and risks of the options you are considering, read all of the relevant materials. For instance:
529 plans. Read the offering circular or prospectus. It usually contains the investment strategy and risks of the plan in addition to its portfolios. Most 529 plans provide this document on their websites.
Mutual funds. Read the prospectus and shareholder reports. These are generally available from the mutual fund company or your financial professional.
Stocks and other securities. Read the company's registration statement or annual (Form 10-K) and quarterly (Form 10-Q) reports. These are typically available in the SEC's Electronic Data Gathering, Analysis and Retrieval (EDGAR) database. For companies that haven't filed in EDGAR, contact the SEC Office of Investor Education and Advocacy to see if the company has filed any documents with the SEC.
Beyond all of these tips, be sure to look at possible limitations or restrictions that could affect your savings. What happens to your college savings plan if your child decides not to attend college, you have another child, or you lose your job? These events could have a significant impact on your education savings strategy. We can help you review the college saving options you're considering to ensure they offer the flexibility and control you need.