It’s almost Back to School time, and if you have children, you are probably busy with the shopping, planning schedules and general activities that go hand in hand with this period of year.
Since kids and school are top of mind, it is also a great time to consider if a college savings plan is right for you or, if you already have one established, to revisit to make sure you are on track.
A college savings plan is an investment in your child’s future and can provide tax benefits to you here and now. While there are tangible benefits to establishing a college savings plan, it is important to consider all of your financial goals and determine the course of action that is right for you and your family. For example, you may want to look at the pros and cons of a college savings plan versus other financial goals like buying a home, saving for retirement, or paying off high-interest credit card bills.
Before jumping into some of the options available to you today, I thought you might find some of the statistics related to costs of a four-year degree of interest. According to the National Center for Education Statistics, the average annual cost at public institutions for tuition, room, and board in 2010 was $13,600 or $54,400 for four years. A private university during that same period would have cost $ 36,300 annually. Data from the Center also indicates that prices for undergraduate degrees (tuition, room, and board) at public institutions rose 42% after adjustment for inflation between 2000-01 and 2010-11.
The Arizona Commission for Post-Secondary Education website provides a convenient tool for calculating how much you will need to save and a plan for getting there. You can access it here. How Much Do I Need to Save
If you do make the determination that a college savings plan is right for you, there are many options, so it’s important to find the one that best fits with your family. Today, I’ll focus on the 529 plan as this is one of the most common ways of saving for college. According to the Securities and Exchange website, “A 529 plan is a tax-advantaged savings plan designed to encourage saving for future college costs, sponsored by states, state agencies, or educational institutions. There are two types of 529 plans: pre-paid tuition plans and college savings plans.” The SEC website provides a nice summary table that helps illustrate the differences. A summary is provided below. Alternatively, you can view the table on the SEC site by clicking here.
- Locks in tuition prices at eligible public and private colleges and universities.
- All plans cover tuition and mandatory fees only. Some plans allow you to purchase a room & board option or use excess tuition credits for other qualified expenses.
- Most plans set lump sum and installment payments before purchase based on the age of beneficiary and number of years of college tuition purchased.
- Many state programs guaranteed or backed by the state.
- Most plans have age/grade limit for the beneficiary.
- Most state programs require either owner or beneficiary of the plan to be a state resident.
- Most plans have limited enrollment period.
College Savings Plan
- No lock on college costs.
- Covers all “qualified higher education expenses,” including tuition, mandatory fees, room, and board, books and computers (if required)
- Many plans have contribution limits over $200,000.
- No state guarantee. Most investment options are subject to market risk. Your investment may make no profit or even decline in value.
- No age limits. Open to adults and children.
- No residency requirement. However, nonresidents may only be able to purchase some plans through financial advisers or brokers.
- Enrollment opens all year.
A key consideration in setting up a 529 college savings plan is the fact that you may face penalties or lose benefits if you don’t end up using the money for higher education. College isn’t right for every child so you’ll want to keep that in mind as you consider your alternatives.
As I mentioned above, a college savings plan can be a great investment in the future of your children as well as offering you tax benefits. Earnings in 529 plans are not subject to federal tax, and in most cases, state tax, as long as withdrawals are for eligible college expenses. Arizona also offers an additional tax incentive. The State of Arizona allows for an income tax deduction for contributions made to any state’s 529 plan. The incentive is in addition to the ongoing tax benefits of a 529 plan. In Arizona the tax incentive allows for the following:
- Married couples can subtract up to $4,000 when jointly filing
- Single individuals or heads of household may deduct up to $2,000
These tax benefits are very attractive but a word of caution, be aware that withdrawals for non-eligible expenses will be taxed, and you will be assessed a hefty 10% penalty on top so keep this in mind as you consider your options.
Investing in a 529 plan is only one of several ways to save for college. Other tax-advantaged ways to save for college include:
- Coverdell education savings accounts
- Uniform Gifts to Minors Act (“UGMA”) accounts,
- Uniform Transfers to Minors Act (“UTMA”) accounts,
- Tax-exempt municipal securities,
- Savings bonds.
- Saving for college in a taxable account is another option
In future posts, I’ll cover each of these options in more detail. In the meantime, if you have any questions or need help sorting through the tax related issues give me a call or drop me a line.