By Michael Lynch
It’s back to school time. Your little charges may be getting dropped off at preschool, boarding a bus for elementary school, or driving themselves to high school. Regardless, at some point in the not-so-distant future they may be heading off to college. That carries a financial wallop. It’s never too early to start planning.
The price tag hanging on college educations can appear staggering. Private colleges average $39,400 for just tuition, fees, and books. Living is extra. Throw that in for the full experience, and the sticker price jumps to $57,570, according to the College Board.[1] The average price of a new car, by way of comparison, is $48,644 according to Cox Automotive.[2]
Here in Connecticut, UConn will set a student back just over $35,000 a year for the full package of tuition, room, board, and books.[3] Even Connecticut’s two-year colleges cost more than $5,000 a year. That’s before you purchase a single book.[4]
The price, however, is often well worth it. According to the U.S. Bureau of Labor Statistics, bachelor’s degree holders earn an average two-thirds more than people with only a high school diploma.[5]
But how to pay? Like all things financial, there is no one right answer for everyone but a variety of options and strategies to investigate and pursue.
One is waiting and paying out of pocket or relying on aid. This is the most dangerous, as most aid arrives in the form of loans that will likely need to be paid back with some interest.
Some sort of pre-funding college remains prudent. There are many good options available, ranging from traditional college accounts to less traditional strategies. Most will employ some form of tax deferral.
The traditional college accounts are now state-sponsored 529 plans. Every state sponsors at least one. People can use any state plan, but up-front state income tax advantages often require the use of a resident state’s plan. In Connecticut and New York, for example, state residents get state income tax deductions for contributions to state plans for up to $10,000 for married couples.
Section 529 plans work like Roth IRAs for higher education. Contributions are made with after-tax money. The money can be invested in an array of options, depending on the state plan. It grows tax-deferred. When it’s spent on qualified higher education expenses, the gains will not be taxed.[6]
There are also prepaid tuition plans. These allow people to lock in today’s tuition rates, effectively hedging against inflation. A downside is that they tend to be state- or school-specific.
Other options include Roth IRAs, traditional IRAs, cash value life insurance, taxable savings and investment accounts, and uniform gift to minor accounts. Each of these can be appropriate for families depending on their unique circumstances.
A Roth IRA, for example, might be a good choice for a family that wants to maintain a favorable position for needs-based financial aid and whose adults are at or near retirement age when a child hits college. For families with younger parents, a cash value life insurance policy may provide similar benefits. For a family that has significant retirement assets but little non-retirement savings, tapping an IRA penalty-free for qualified higher education expenses can make sense.
And don’t forget grandparents. Anyone, including these very special people, can help with the college bill. If they pay directly to the school, it doesn’t even count as an annual gift for tax purposes.
Education is more valuable than ever for many Americans—and more costly too. Fortunately, our complex financial and tax system offers a variety of effective options for accumulating resources to pay tuition and other expenses. There is no one best way. There are a variety of tools that can be used to build a plan to suit a family’s unique needs. Like most things financial, the best strategy is to get started as early as possible. Contact us to get started. We’ll help simplify the options to produce some big results. Time, combined with prudent tax advantaged investing, can make a little money stretch a long way[AR1] .
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[1] Average Cost of College, Bankrate.com, https://www.bankrate.com/loans/student-loans/average-cost-of-college/ Accessed 8/25/2024. Source data from the College Board.
[2] Cox Automotive, New-Vehicle Prices Hold Steady in June, as price pressures continue to steer market, according to Kelly Blue Book Estimates, Wednesday, July 10, 2024. https://www.coxautoinc.com/market-insights/june-2024-atp-report/#:~:text=ATLANTA%2C%20July%2010%2C%202024%20%E2%80%93,in%20the%20U.S.%20was%20%2448%2C644. Accessed August 25, 2024.
[3] University of Connecticut website. https://financialaid.uconn.edu/cost/ Accessed August, 25, 2024.
[4] Data from Connecticut community colleges. https://ctstate.edu/admissions-registration/investing-in-a-ct-state-education Accessed August 25, 2024.
[5] “Education Pays,” U.S. Bureau of Labor Statistics, https://www.bls.gov/emp/chart-unemployment-earnings-education.htm Accessed August 25, 2024.
[6] 529 plans are established by states or eligible educational institutions under IRC Section 529 as “qualified tuition programs.” There is no guarantee offered by the issuing municipality or any government agency. You should consider the potential benefits (if any) that your own state’s plan (if available) offers to residents prior to considering another state’s plan. There may be tax benefits to plans offered by your resident state. Non-qualified withdrawals from a 529 plan are subject to a 10% federal tax penalty and current income tax and may also be subject to state tax penalties. As with all tax-related decisions, consult with your tax advisor.
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