If you have kids headed to college, the annual costs may give you serious sticker shock. Consider these projections from The College Board’s Annual Survey of Colleges. For the 2017-18 academic year, the average annual cost for tuition, fees, books, and room and board at a private four-year college was $48,170. For public institutions, the price tag was $22,020 — assuming you’re an in-state resident.
If you are just starting to think about an education fund because your kids are still quite young, it may be hard to predict exactly how high those costs may be when they actually enter college. For the past decade, college prices have outpaced inflation.
“To help prepare for these rising costs, start saving as early as possible to reduce the amount you pay out of pocket later,” advises Tracy Green, CFP®, Planning and Life Event Specialist at Wells Fargo Advisors. However, even if you’ve set aside what you think will be more than enough for an education, Green says there are many strategies and financial tools that you can leverage to lessen the financial burden of paying for college. And if you don’t think you’ll be eligible for need-based financial aid, you may want to explore financial options that:
- Help take full advantage of your savings/investments.
- Employ tax-efficient tactics so you can put more of your money to work for you.
Here’s a breakdown of the most common — and often effective — ways to efficiently finance a college education:
1. Apply for merit-based and institutional aid
Your family doesn’t necessarily need to prove financial need for your children to be eligible for a scholarship or other merit-based award and institutional aid. Research different types of scholarships or institutional aid available, many of which you can apply for online and are valid at any college. To boost the chances of receiving a merit-based award from a specific school, ask your child to consider applying to a few colleges where their academic achievements in high school would be likely to land them in the top quartile of applicants. Your child may qualify based on a combination of high school grades, ACT/SAT test scores, or extracurricular activities (leadership roles, volunteerism, etc.). Academics usually play a role, but many merit scholarships are granted based on special talents a candidate may exhibit in the arts or athletics, says Green.
2. Consider federal student loans
High-net-worth families aren’t likely to qualify for need-based federal financial aid, but that doesn’t mean borrowing isn’t a viable option. Your child may qualify for unsubsidized federal student loans. These loans typically carry low interest rates and feature long payback periods. Filing a copy of the Free Application for Federal Student Aid (FAFSA) provides the school with the information necessary to determine a package of financial aid (need-based and non-need-based) for your child. “Having your child take out a small loan to help pay for some of the expenses, even though it may not be necessary, can be an efficient way for him or her to take on some responsibility and start building financial skills,” notes Green.
3. Create a 529 College Savings Plan
If you still have multiple years before your child enters college, consider a 529 College Savings Plan (529 Plan), a widely used investment option, says Green. The after-tax dollars you contribute to one of these plans (with your child as the beneficiary) have the potential to grow tax-free. And, as long as you use any withdrawals to pay for qualified higher education expenses for the beneficiary, the account’s earnings are also potentially tax-free. With the passing of the new tax reform of 2017 the definition of qualified education expenses will now include up to $10,000 per year for K-12 tuition beginning January 1, 2018.
Every state offers its own 529 Plan, but you aren’t limited to your home state’s plan. Some states offer upfront state tax deductions for residents’ contributions, so it will be important to research your state’s plan. “Even though your state may offer a tax deduction, it may be worthwhile to compare your state with other state plans for performance, fees, and flexibility,” suggests Green.
You should consider the investment objectives, risks, charges, and expenses carefully before investing in a 529 Plan. The official statement, which contains this and other information, can be obtained by calling your Financial Advisor. Read it carefully before you invest.
- 529 Plans are subject to enrollment, maintenance, administrative, and management fees and expenses.
- Nonqualified withdrawals are subject to federal and state income tax and a 10% penalty, unless an exception applies.
- College savings plans offered by each state differ significantly in features and benefits. The optimal plan for each investor depends on his or her individual objectives and circumstances. In comparing plans, each investor should consider each plan’s investment options, fees, and state tax implication.
One more important thing to remember: You could be subject to taxes and fees if you don’t use all of the 529 savings for college or your child doesn’t attend college at all. “529 Plans can provide many tax benefits and flexibility when saving for education, however, the rules are somewhat complex. Be sure to talk with your tax and financial advisors prior to making any distributions or changes to the account owner or beneficiary to understand your options and avoid potential tax or penalties,” says Green.
4. Explore other options
Depending on your unique circumstances, you may be able to find other effective savings paths. If you own a business, you could hire your child and contribute an amount equal to their annual earned income to a Roth IRA held in your child’s name. After-tax contributions to a Roth generally have the potential to grow tax-free and could later be withdrawn for college. Earnings also could remain in the account for your child’s eventual retirement. Keep in mind that IRS rules for taking Roth IRA withdrawals need to be followed to avoid taxes and penalties.
If your child receives financial gifts from grandparents or other family members that you’d like to earmark for college, you could also talk to your Financial Advisor about whether it would make sense to create an annual gift trust, minor’s trust, Uniform Transfer to Minors Act (UTMA) account, or even a Family Limited Partnership (FLP) or Limited Liability Company (LLC).
More tips to boost your savings
Overall, reducing taxes on your investments to make more of your money available for college expenses is a key part of college-payment planning. However, tax deductions should never be your only consideration.
“In some cases, you may find that you can earn a higher after-tax return on your investments in a taxable account rather than a tax-advantaged account like a 529,” says Green. “Or you may need additional savings to pay for expenses such as transportation and personal expenses which are not considered qualified for a 529 Plan distribution.” The bottom line is that there are many different ways to finance your child’s college education. Your Financial Advisor can help you sort through the options that best meet your needs.