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College Planning

The cost of higher education is skyrocketing. Tuition increases are rising faster than the rate of inflation and outpacing increases in family income. In the last three decades, tuition costs have risen by roughly 25.3% at private colleges and 29.8% at public colleges.

If this trend continues, the inflation-adjusted price of an undergraduate education could more than double by the time your children or grandchildren are ready for college.

Take the guesswork out of planning for college

Most of us have competing financial priorities, like saving for retirement, which can complicate financial decisions. That’s why saving for college isn’t enough—you also need a plan! We can help you with a range of college planning issues, including:

  • Maximizing financial aid
  • Utilizing tax credits and other tax strategies
  • Reviewing all funding strategies, including smart loan strategies
  • Appealing financial aid offers
  • Learning the best places to find grants and scholarships

Let’s look at some of the most common college planning strategies and how you can start preparing for your kids’ college.

529 Plans

When it comes to college planning, you’ve probably heard of a Section 529 College Savings Plan. 529 Plans are the go-to education savings accounts. This is due to their massive tax breaks and, now, the flexibility to include K-12 expenses in addition to college expenses.

These state-sponsored plans offer flexible, tax-deferred ways to save. While contributions to California’s 529 plan aren’t tax-deductible, earnings grow free from state and federal taxes. However, other states allow you to deduct your contributions for state income tax purposes.

In general, a 529 Plan includes benefits like:

  • Significant tax benefits
  • The freedom to contribute large amounts
  • Possible estate planning benefits
  • Full control by parent or grandparent, not your beneficiary
  • Flexibility in education expenses, including K-12 and vocational school
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How much does college cost?

When babies born in 2021 turn 18, the sticker price of a four-year college degree could reach a quarter-million dollars at public universities, and half a million dollars at private universities. If you have more than one child, you could be facing a bill that easily reaches seven figures!

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529 Savings Plans vs. 529 Prepaid Tuition Plans

There are two main types of 529 Plans, each with their own benefits and drawbacks.

529 Savings Plans

Think of these plans like education-oriented 401(k) plans; you can invest your contributions in a preselected set of mutual funds. Your account balance rises and falls based on how much you contribute and how well your investments perform. The money in your account can be used at any time for qualified education expenses.

529 Prepaid Tuition Plans

These aren’t as flexible as 529 Savings Plans, which can be used for any qualified education expense.

However, you can pre-purchase college credits at public in-state universities, allowing you to “lock in” the current cost of college. Room and board won’t be covered and cost extra.

In general, 529 Savings Plans are more flexible, more widely available, and make more sense for most families. 
That’s why we’ll focus specifically on 529 Savings Plans.

Pros and Cons of the 529 Plan

PROS

  • You maintain control. You retain control over the account, not your child. You get to choose the investment strategy that’s right for you and your student. You can even transfer the account to another beneficiary.
  • Tax-free growth and withdrawals. The money you invest grows tax-free. Money withdrawn for educational expenses? Also tax-free. That means every dollar you save goes further than it would in a regular investment account.
  • State income tax deductions. If you reside in one of the 30-plus states that offer a state income tax deduction, that deduction enables you to contribute a little more from tax savings on the back end. In some cases, you don’t even have to contribute to your home state’s plan in order to get the deduction.
  • High contribution limits. 529 Plans have generous contribution limits, regardless of income level. In general, 529 Plans limit lifetime contributions from $235,000 to $500,000. However, most plans don’t have annual contribution limits. To avoid the federal gift tax and superfund a 529, you can simply add the money into the account, then file Form 709 at tax time.
  • Flexibility to change beneficiaries. You—rather than your child—control the funds. Each 529 Plan has a named beneficiary, but you can change the beneficiary to just about any other family member. If your beneficiary ends up not using all or any of the funds, you can name another child, grandchild, niece or nephew, or even yourself.
  • Potential creditor protection. Slightly over one-half of states provide some type of protection against creditors of the beneficiary of the 529 Plan (the college student), the account owner (the parent or grandparent), and/or the donor of the funds (another relative). In most states, creditor protection is provided only for accounts established within the state. The asset protection component varies from state to state, so it’s important to review each plan and state laws to determine the conditions of your 529 Plan.

CONS

  • Limited to qualified education expenses. Be wary of over-contributing to a 529 Plan. If you don’t use the money towards education expenses, your earnings will be taxed and subject to a 10% penalty.
  • Limited changes in portfolio allocations. The asset allocation of the portfolio can only be changed once a year or upon a change in beneficiary. Most plans follow an age-based plan, which shifts away from riskier investments as the child gets closer to college, or an investment objective-based plan, which focuses on a defined level of risk (for example, “aggressive growth” or “income”).

UGMA/UTMA Custodial Accounts

Another option to consider is a custodial account, as established by either the Uniform Gift to Minor Act (UGMA) or the Uniform Transfers to Minors Act (UTMA). While not specifically designed for educational funding, UGMA and UTMA allow you to accumulate funds in your child’s name.

Though you’re funding an account for a child, the child’s access to the account is limited until they reach the age of majority—usually 18 or 21.

As the named custodian, you control the account until the child is no longer a minor. At the age of majority, the custodial relationship ends and the child assumes control over the account.

Pros and cons of the UGMA/UTMA Custodial Account

PROS

  • Investment flexibility. You can invest the funds on behalf of your child. We can provide you with investment advice that suits your portfolio growth goals for your child. As a custodian, you can choose from an array of investment options, including stocks, bonds, mutual funds, and more.
  • Tax benefits. Transferring assets may lower the value of your portfolio, thus allowing you to avoid higher taxes. The first $1,050 in unearned income is tax-free, and the next $1,050 is taxed at the child’s income tax rate.
  • Reduction of estate taxes. UGMA/UTMA allows you to transfer ownership of assets to your child, possibly reducing your estate taxes, without needing to establish a trust.
  • No annual contribution limits. There are no annual contribution limits to UGMA/UTMA custodial accounts, however, gifts into the account are subject to annual gifting rules.
 

CONS

  • Limited custodial time frame. You lose control of the funds when your child reaches the age of majority.
  • Irrevocable contributions. Money put into the custodial account belongs to the beneficiary, and all transfers are irrevocable. You can’t take back the money if you change your mind later on.
  • Your child has complete control over the money. Upon reaching the age of majority, your child can use the funds for whatever they want. For instance, if you set up a UGMA/UTMA account to pay for your child’s college education, they aren’t legally obligated to use the money for that purpose.
  • Potential impact on financial aid. When applying for financial aid, your child’s assets are assessed at a 20% rate, as opposed to a top rate of 5.64% for parental assets.
 

Alternative College Planning Methods

While not specifically designed for higher education planning, you can pay for education expenses through other strategies. 

Contact us today to figure out the best strategy for paying for college.

IRAs
You can make withdrawals from your IRA to pay for qualified college expenses. The 10 percent penalty tax is waived, but you’ll still have to pay income taxes.

When weighing whether to dip into your retirement savings, understand that any disbursements may count as income and affect your child’s eligibility for need-based financial aid.

Employer-Sponsored Retirement Plans
If you need more money to pay college expenses, you can borrow from your 401(k) or 403(b) plan. In general, loans from these accounts will charge one to two percent higher than the prime lending rate.

Although interest charged is deposited into your retirement account, you’ll lose out on the benefit of compounding interest.

The loan must be repaid in five years. If you lose your job, the loan may be due immediately.

Life Insurance

Most people associate life insurance with the death benefit paid out when the insured dies. While the death benefit is a useful feature, it can also be used to fund higher education costs. It’s not recommended to buy a policy for the sole purpose of college savings, but the cash value of your whole, variable, or universal policy can be used to pay for such expenses.

 

Take the guesswork out of planning for college

What should you expect when planning for higher education costs? What are the different 529 options, rules, and regulations? How can you find scholarships and grants?

We’ll help you make sense of it all when deciding which of these is right for you and your family.

Get in touch today to start the conversation!

Create an educational legacy

By taking a proactive approach to college planning, we can help you minimize your concerns about tuition bills or family debt.

Get in touch today to discuss whether a 529 plan is right for your family!

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