Average college costs in the United States are $32,889 per student. In the past 20 years, college costs have doubled and are growing at a rate of 5.2% annually. Many parents aren’t prepared. Sallie Mae reports that 56% of American parents are saving hard for their children’s education. The average savings of these parents is $18,135, which is not enough to cover tuition and room fees for even one year. If you haven’t started planning for your child’s future, it is time to do so.
1. 529 College Plan
State-sponsored 529 plans offer tax-advantaged, state-sponsored plans that can be used to pay higher education costs. This plan allows you to invest your after-tax money in bonds and low-cost stock for maximum diversification. You can also withdraw your money tax-free for qualified education expenses. Qualified education costs include tuition, room, board, books, etc. You will be subject to a 10% penalty if your funds are used for non-qualified expenses. Each state in the United States has its own rules regarding a 529 college plan. Depending on the benefits, you can place your savings in either your state’s 529 plan or another state. It is best to open a 529 plan as soon as possible.
The College Savings Plan Network reports that 529 savings plans reached an all-time high of $352.4 billion in assets in the first half of 2019. This shows the importance of the plan. Even though the COVID-19 situation lowered the balance of the 529 plan, it still stands at $293 billion in March 2020. Because of its many advantages, the plan is expected to rebound soon. These are just a few of the many benefits that 529 college plans offer:
- Tax deductions, tax-free money growth, and tax-free withdrawals
- Flexible beneficiaries. To provide for another child’s education, parents can change the beneficiary they have designated.
- Contribution rates are high. The contribution rates are high. Each state has its own limit that can be between $235,000 to $529,000.
- Option to convert the 529 savings to an ABLE account for support of non-qualified expenses for disabled children and young adults.
You must evaluate your qualified expenses and comply with the withdrawal rules for the 529 plan. You should also apply early for withdrawal.
2. Roth IRA
Roth IRA (Individual Retirement Account), is a retirement account that allows you to save money for the future. The Roth IRA account can be used for both education and retirement. It offers many benefits and flexibility. You only pay taxes on the money that you deposit to this account. All withdrawals after this are exempt from tax. These accounts are best for your child’s retirement and future. You can invest your after-tax dollars, which may result in lower taxes in the future than in the present. Your after-tax contributions grow without tax, so your savings have the best chance of growing. A Roth IRA is a great way to secure your money.
- Tax-free growth
- Flexible use of funds after education expenses have been paid
- Due to strict withdrawal restrictions, the funds will grow for a long time until they reach 59.5 years of age.
Before you decide to offer this option for your child’s education, make sure you check your Roth IRA eligibility. The maximum amount you can contribute to a Roth IRA for 2020 is $6,000 per year. If you are over 50, your annual contribution to a Roth IRA can be as high as $7,000 per year. Earned income is the only eligible contribution allowance. This includes income earned from salary, wages, bonuses, commissions, bonuses, freelance, and other sources. Additionally, the upper limits for either one Roth IRA account or a combination thereof are $6,000 and $7,000 respectively. The IRS (Internal Revenue Service), will impose a penalty of $6,000 every year for contributions exceeding this threshold until the error is corrected.
3. Coverdell Education Savings Account
Coverdell’s education savings plan is similar to a 529 plan. The tax-deferred trust account allows parents and children to pay for their child’s elementary and secondary school educations. Even a Coverdell savings plan allows you to make after-tax contributions, just like a 529 plan. This account allows you to save tax-free and distribute the funds without any income tax, as long as the money is used for qualified educational purposes. A Coverdell education savings account, however, is more flexible than a 529 plan in terms of qualified expenses. The plan allows you to withdraw funds without penalty for tuition fees, uniforms, and other costs in primary and secondary schools. This account has many benefits:
- Tax-free growth
- There are many options for investments
- This definition provides a more detailed description of qualified expenses
You can only save $2,000 per year until the beneficiary turns 18 years. Your income limits also limit your eligibility. To avoid tax penalties, you will need to comply with certain rules. For example, all assets must be given to the beneficiary before the beneficiary turns 30.
4. Prepaid Tuition Plan 529
According to a College Board report tuition fees for college rise almost 5% each year. A 529 Prepaid Tuition Plan is a great way to ensure your child’s education. You can pay all or part of the tuition fees at a particular university or group of institutions in advance. This plan allows you to pay now while avoiding tuition price increases in the future. There are many benefits to choosing 529 Prepaid Plans:
- Tax –free Growth
- There are no age or income restrictions
- High contribution rates (varies by state).
- Flexibility to change or choose the beneficiary for the future, to benefit another child, or yourself
- Funds Assurance
These prepaid plans can be disqualified because they are intended for educational expenses. You can change the beneficiary or withdraw the funds.
An educational trust is another common way parents save money for their children. To hold assets for your child, you can create trust and eventually give them over in times of need. You can also choose to set up structured/custodial accounts such as UTMAs or UGMAs, which allow you to transfer assets to your child’s account, and then invest for them until they reach the age of trust termination. Each state has a different trust termination age, but it is usually between 18 and 21. Trusts offer two key benefits:
- There is no restriction on the use of money
- Donors pay less estate tax
Be careful when selecting a trust. The flexibility in how money is used could lead to the child spending it on other things, instead of education. You cannot also change the beneficiary at any time.
Each savings option comes with its own pros and cons. You should carefully consider which savings option is best for you. Professional financial advisors can help you make the right choice if you need it.
This post was written by All Seasons Wealth. At All Seasons Wealth, we provide expert advice and emphasize the importance of creating in-house portfolios to personalize your strategy for asset management, financial planning, and cash management. We utilize research and perform market analysis to provide you with a financial advisor in Tampa. No matter your needs, we can work with you to develop a consulting solution tailored to you. Click here to learn more!
Any opinions are those of All Seasons Wealth and not necessarily those of RJFS or Raymond James. Investing involves risk and you may incur a profit or loss regardless of the strategy selected. Investing involves risk and you may incur a profit or loss regardless of the strategy selected. Every investor’s situation is unique and you should consider your investment goals, risk tolerance, and time horizon before making any investment. Past performance may not be indicative of future results.