Investing for a child's education
College tuition and associated education costs rise annually. If you have young children, the price you'll pay for their education could be significantly higher than today's prices.
Despite this cost escalation, you'll want your children to have the option to go to the college of their choice. So how do you save enough money for college and still achieve your other goals?
Things to consider:
Understanding your options
Educational costs are a significant budget item for any family, but you do have a number of options. You can start early by budgeting education funding for your children from birth. You can also help them save for their own higher education expenses during their pre-college years. Children generally have access to loan programs and other tuition-assistance programs.
Exploring investment programs for your child
You have a variety of options available to help save for your child's education. To fully explore all of your choices, you'll probably need to consult a financial professional.
With a Coverdell Education Savings Account (formerly Education IRA), you may make nondeductible contributions of up to $2,000 annually to one of these accounts for each child until age 18, assuming you meet the program's income limits. Consult your financial professional for income limit and other qualifying information. Earnings accumulate tax-deferred and distributions for qualified expenses are tax-free.
The Qualified Savings Tuition Plan, Section 529, is another option that allows after-tax investment. Many states allow contributions in excess of $300,000 per beneficiary. Withdrawals are federally tax free if used for qualifying higher education expenses. Non-qualified withdrawals are subject to federal and state income tax and a 10% penalty. The money in this program is held in the donor's name, usually the parents or grandparents, and can be transferred to another child or returned to the donor if the child elects to skip college.
By investing in a 529 plan outside your state of residence, you may lose any state tax benefits. Also, 529 plans are subject to enrollment, maintenance, administration/management fees and expenses.
Helping your children help themselves
If your children are still young, they can contribute to their own higher education savings with after-school jobs, paper routes, or other activities. You may want to establish an investment account and teach your children to routinely contribute some of their earnings. You'll not only be reducing your future educational costs, but you'll be teaching your children a valuable savings habit.
While investing in your child's name offers some advantages, there are other considerations you'll want to weigh. When your child reaches college age, 20% of his or her money will be considered available for college expenses, while only about 5% of your assets (excluding retirement accounts) are counted when qualifying for education assistance programs. Investing in your children's names could impact their ability to qualify for assistance. Also, children aren't required to spend their invested money on college tuition. They could buy a new sports car or take an extended trip to Europe.
Maintaining your own retirement savings
In an effort to provide for their children's education at all costs, some parents neglect their own retirement savings.
If your budget doesn't allow you to save simultaneously for your child's education and your retirement, many professionals recommend that you forego the education savings. Children have various options for paying for their education, including student loans and other assistance programs, and they have a working lifetime to repay those debts and move ahead.
If your retirement planning comes up short, however, you may find yourself financially dependent on your children. Maintaining your own financial strength is key to the success of both your children's future and your own. If you must, you can withdraw your retirement funds to help pay for your child's education. Federal law now allows you to do so without incurring the usual 10% early-withdrawal penalty, but you'll still pay income tax on the portion of the distribution that would otherwise have been subject to income tax. Generally speaking, withdrawing money from your retirement plan should be considered a last resort because it could jeopardize your future financial security.
Request a referral to a financial advisor who can help.
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