We all know that we should be setting aside money each month to save for our children's future college education–but how much money? And what type of college savings account is best for my family? And since money isn't exactly an unlimited resource, what should take priority in the family budget–retirement savings for the parents or college savings for the kids?
Let's dig into some of these questions about when should I start saving for my child's college education and get answers from some of the best financial minds around! (And let me be clear: I am in no way a financial advisor! I am just a mom who plans to send six kids to college someday! Please consider consulting a personal financial planner to determine the best game plan for your own family!)
Question 1: Priority? Retirement or College Savings?
According to Suze Orman, one of America's most recognized experts on financial advice, she says:
So make sure that you are making the maximum contribution possible to your company's 401K program (especially if your employer offers any sort of matching!), regularly fund your IRA (if you don't have a 401K program), and take care of your own retirement needs BEFORE you start saving for your children's college fund.
And might I also mention that BEFORE you focus on college savings that you put aside as least 3-6 months of living expenses into an emergency fund (in case you or your spouse become unexpectedly unemployed). And if you are sitting with a pile of credit card debt, paying that down also comes BEFORE you start putting money into a college fund. You have to take care of your own financial needs first!
Question 2: How Much Money Do I Need to Save?
Assuming that you have taken care of your own debt, emergency savings, and retirement plan first, the next thing to consider is how much of your child's education you would like to/intend to fund. Savingforcollege.com is an excellent resource to help you calculate a monthly savings goal based on your child's age, the average cost of tuition today (which is adjusted for the future rate of inflation), and the percent of college costs you would like to cover.
Check out the example that I created (above), estimating the future cost of sending today's newborn to college in 18 years! In order to save the $259,321 needed you will need to start making monthly contributions of $561 to meet that goal!
Wow, that's a lot of dough! Gulp! And where should we “park” those funds?
Question 3: What Should I Know About 529 Savings Plans?
529 Plans actually come in two “flavors”.
“Your money is invested either in a contract that promises to pay for at least part of the future tuition costs for your child (this is called a prepaid tuition plan) or in a mix of stock and bond mutual funds (this is called a college savings plan). Either way, the value of your investment grows tax free until withdrawn.” (Suze Orman's Resource Center)
And you can start them at any time:
“Qualified withdrawals are now free of federal tax, and most plans let you save in excess of $200,000 per beneficiary. Plus, there are no income limitations or age restrictions, which means you can start a 529 no matter how much you make or how old your beneficiary is.” (CNN Money)
529 plans differ by state, and quite often, there are tax benefits to investing in your own state's 529 plan. (If your state doesn't offer any sort of state-based tax benefit, then you should shop around for the best 529 plan.)
One nice advantage of a 529 plan is that you, the account owner, will always have control over the 529 plan account. Your child has no right to the account even after he or she turns 18 or 21.
Question 4: What Are Other Ways to Save for College?
Besides 529 plans, you can also open a Coverdell Education Savings Account, transfer funds or property to your children (or grandchildren) via a custodial account under the Uniform Transfers to Minors Act, or even purchase U.S. savings bonds as a way to save.
But again, the best way to navigate these decision-making waters is to consult a personal financial planner to understand the differences of each type of plan and which vehicle is best for you, plus how (or even if) they can work together. For example, a Coverdell ESA limits contributions to $2,000 per child per year and places age and income limitations on participants. And it gets especially tricky when determining the tax-exempt withdrawal of funds from an ESA in combination with Hope, American Opportunity, or Lifetime Learning credit. See what I mean? Research and good advice are definitely in order here.
Question 5: What about Financial Aid and Loans?
The College Board recently reported that for the 2013-2014 school year, the average tuition and fees for a private four-year college was $30,094, and $8,893 for an in-state public school. Even if you saved enough to cover $5,000 per year of the costs and borrowed the rest, after four years, you would end up paying back $146,141 in loans for private school and $22,672 for public school (assuming a loan interest rate of 8% and a 10-year repayment plan).
That kind of debt can have a huge impact on whether or not that new graduate can afford rent and a car payment (let alone saving money in order to someday get married and purchase a home!).
“It's a real travesty what is going on in our country with student loans and our children,” stressed Orman. “Students are paying more in interest on student loans than what they pay for a car or a mortgage, and those loans (auto and mortgages) can be discharged in bankruptcy,” said Orman. (CNBC)
The good news? When asked how they paid for college, families reported covering 31% of the costs with grants and scholarships.
The not-so-good news? Too many high-school graduates are striving to attend “the best college they can get into” and not taking into account the costs involved and the amount of debt they will incur in order to attend that school. Would any of us purchase a car with that same premise in mind? Of course not.
We need to talk to our kids about balancing the cost of an education against the debt commitment required. There are many creative ways to lower the number of loans needed, which include living at home while attending the first few years of college, or even attending a local 2-year school before transferring to a 4-year traditional university.
Question 6: What Does the Future Hold for College Education?
“As the cost of college tuition continues to grow faster than the rate of inflation, and the number of graduates who are carrying a massive college loan debt also increases, the pressure to develop post-secondary educational alternatives is growing. In the coming decade, emerging technologies will thoroughly transform higher education. Although distance learning and computer-assisted education have been around since the 1960s, financial pressures are forcing institutions to develop aggressive online programs.” (Bloomberg)
In 2009, 44% of post-secondary students in the USA were taking some or all of their courses online, this figure is projected to rise to 81% by 2014. (Wikipedia)
While online coursework offers a huge appeal to part-time and older non-traditional college students due to increased flexibility and cost, could there be more of a move to reduce the cost for a traditional college student by offering more online classes?
Bloomberg recently published an article predicting the demise of half of the business schools in the country due to the development of successful online learning programs from elite universities such as Indiana University's Kelley School of Business and the University of North Carolina's Kenan-Flagler Business School. And if colleges are finding a way to take their most elite business school programs online successfully, then surely, won't undergraduate programs follow?
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