How Parents Can Save Money for Their Children's College Education
Raising a child is filled with unexpected costs from housing and food to childcare, healthcare, and education.
Although the exact amount of a college education may be difficult to accurately determine, the significant expense is predictable.
A college education will cost anywhere from $10,000 to $50,000 per year depending on the child’s housing situation, and whether they attend a public or private college, and are attending college as a state resident student or out-of-state student.
It is common for parents to delay saving for college until children are in high school and college application time is just a few short years away. Although this is not advisable, it is sometimes simply the reality.
When college is imminent and very little or no money has been saved, the situation can quickly become overwhelming.
Many parents feel they are forced to decide between paying for college or retiring from work or forcing their child to take out significant student loans.
If you are a parent wondering how you will pay will college, avoid the initial frenzy and start with one small step.
You can open up a savings account with a simple $5 deposit or an online ScholarShare College Savings account with as little as $25 opening deposit.
From there, you can build small and steady contributions that will add up over time.
Most financial advisors tell parents they should start saving for college as soon as they can. This can be difficult if you are already faced with paying off credit card debt, your own student loan debt, and other bills. But you should still start, even if it is just a small start
Your investment horizon may be 15-18 years, if you are a new parent, or just a year or two away, if you have a teenager in high school.
You have a variety of options, depending on your timeline and goals. In this article, we will explore some of the ways you can set aside money for your child’s future:
- Traditional savings accounts
- CD accounts
- Microsavings “App” accounts
- Endowment policies (Gerber Life College Plans)
- 529 College Savings Plans
- 529 Prepaid Tuition Plans
- Asking family for help to save for higher education.
Traditional Savings Accounts
If you are just starting to save for your child’s education, a traditional savings account may be an excellent starting point for you to put money while you determine what to do with it.
From there you can transfer earmarked funds to another account.
You can open a joint account with your child or spouse, or an individual account in your name.
A word of caution:
Unlike 529 plans, interest earned in savings accounts is not tax-free growth.
Wherever you decide to put your money, make sure you will not pay a monthly fee on the balance.
Many online savings accounts have $0 monthly fees, while some brick and mortar banks charge monthly fee if you do not keep a daily balance minimum.
Before you sign an account agreement, read the fine print or ask your banker if you will be subject to any monthly or annual fees.
A traditional savings account will have the lowest ROI (return on investment) compared to CD accounts or 529 savings plans, and the income is not tax-free.
However, they do offer the benefit of flexibility.
Unlike CD accounts where you have no access to your funds until the term maturity, and 529 accounts, where you are restricted on your use of funds, money set aside in 529 plans can be used for anything, including SAT tutors, application fees, a vehicle, and supplemental cash while in college.
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CD Accounts
Certificate of Deposit accounts, commonly known as CD accounts, are a common way to save money for long periods of time, with virtually no risk.
The benefit of CD accounts is an interest rate higher than a traditional savings account. Accountholders agree to leave the money in an account for a specific period of time, called a term length.
This could be a short 30-day period, or up to a decade.
Typically, the longer the term length, the higher the interest rate. Money earmarked for opening a CD account is a great gift idea from a grandparent or relative.
The primary disadvantage of a CD account is if you need to access your cash, you will need to pay a penalty.
If there is a chance you may need access to the cd before the maturity date (when the term of your CD ends), consider either a “liquid CD” which will offer you no penalty for early withdrawal, or simply, a high-yield savings account.
Microsavings App Accounts
Microsavings accounts such as Acorns, Stash, Rize, and Qapital allow you to invest very small amounts of money, including your “spare change” rounded up from debit card purchases.
For example, if you purchase a latte for $3.25, Acorns will “round up” the transaction and put $0.75 in your investment account.
Along with roundups, you can set scheduled investments to occur monthly, weekly, or daily.
Acorns offers five portfolio options centered around financial goals, including conservative, moderately conservative, moderate, moderately aggressive, and aggressive.
Although these are traditionally not geared towards college savings, they are one more way of setting money aside for the future.
For individuals new to saving money, microsavings apps allow you to save money without even thinking about it.
Endowment Policies (The Gerber Life College Plan)
The Gerber Life College Plan is a savings account and life insurance policy that matures in 10 to 20 years.
The payout can be used to pay for college, or it matures instantly if anything happens to the child.
It is invested in the plan itself, and will generate taxable income each year.
Any plans withdrawn act as loans.
529 College Savings Plans
A 529 Plan is a college savings plan that may offer tax and financial aid benefits.
College savings plans can only be used for tuition, books, room and board, and education-related costs.
As a benefit, if a child receives a scholarship and does not need the funds, parents or grandparents can withdraw the amount of the scholarship from the 529 account, tuition free.
There are two types of 529 plans: college savings plans and prepaid tuition plans.
Every state offers a 529 plan, and you can invest in any state 529 plan, and use those funds for a college education in any state.
For example, you could live in California, invest in a North Carolina plan, and use the funds to attend college in Texas.
There is no special advantage for California residents to invest in the California plan.
In shopping for the best plan, you should choose one with age-based investment options where the risk level shifts as the beneficiary ages and approaches disbursement age.
Typically, risk level is aggressive for very young children, and much more conservative as the beneficiary approaches college-age.
Pay attention to contribution requirements and fees.
Anyone can open a 529 plan with a financial advisor, or directly through a 529 plan manager, such as ScholarShare529, in California.
More than 30 states offer state tax deductions or credits for contributions to 529 plans.
529 Prepaid College Tuition Plan
Prepaid college tuition allows parents or grandparents to prepay part or all of the costs of tuition at a state college, or private college, depending on the plan.
Prepaid tuition plans offer the best benefits for families who plan to send their children to state universities.
Although you can typically convert benefits to use at other institutions, the conversion formula may take away some of the benefits.
The main difference between a prepaid tuition 529 plan and a college savings 529 plan is the prepaid plan hedges against anticipated inflation, while a college savings plan allows for full portfolio investment (stocks, bonds, and mutual funds).
Asking Relatives for Help
Many families consider talking about money to be taboo and do not talk about costs of college and ability to pay for education.
Think about talking about college as a positive topic (education) and not a negative topic (money problems).
Tell grandparents, aunts and uncles, about the growing costs of higher education and to consider a gift of a contribution to a 529 college savings plan, or the gift of a Certificate of Deposit, rather than a gift of toys or clothing.
Grandparents have the option of gifting to a child’s plan, or owning a plan themselves.
In the event the grandparent owns the plan, they can transfer the funds to someone else should the beneficiary grandchild decide not to attend college.
Start Where You Are, With What You Have
If you have not started saving for your child’s future, take a positive step in the right direction by starting today, with what you have.
It’s better to start early, than to wait. If you don’t know how or where to start, you can set up a savings accounts for your child with just a couple of dollars, and it takes just a couple of minutes.
From there, you can make regular contributions, while you research your options and until you’re ready to move the funds to a dedicated college savings account.
