I spent several years as a professional financial planner. As a CFP (Certified Financial Planner) I guided clients through all areas of their full financial planning picture. That means that I had to help clients make difficult choices sometimes. For example, deciding whether to save for retirement or for helping to pay for children’s college education. (Save for retirement first. There are other options for paying for college. There are no other options for paying for retirement unless you want to try and live off of Social Security payments.)
How Much To Save For College
The unfortunate fact of the matter is that most families simply do not have enough money to save effectively for their kid’s college education. Even financially responsible parents spend most of what they make each month. The exception are those with very high incomes, who, ironically, don’t really need to save for college because they can just pay tuition out of pocket when the time comes. However, there is a way to save for college on a limited budget by making smart personal finance decisions and letting the power of compound interest and the future propel your college savings plan forward.
How Parents Should Save For College
First, let me tell you how to NOT save for college.
Do not save for college with savings bonds, Coverdell IRAs, or UTMA / UGMA accounts. And definitely, never, ever, ever, save for college using life insurance. All of these ideas are either outdated or were never a good idea. The reason your parents tell you to use a UTMA account or savings bonds or some kind of trust is, because once upon a time, that was good strategy. However, these strategies are not the best way to save for college today.
The creation of the 529 Plan and its subsequent revisions has rendered all other forms of saving for higher education obsolete. (Coverdell IRAs still have a place if you plan to pay for private HIGH SCHOOL but are not the way to go for college savings.)
The other option is using a Roth IRA to save for college. I’m working on an in-depth look at that. For now, check here for how to use a Roth IRA to save for college.
Don’t bother reading a thousand articles or books, or talking to a bunch of planners or stock brokers, just trust me on this. You want a 529 Plan or a Roth IRA.
Anything negative you have ever heard about 529 plan either applies to a sub-type of plan called a “pre-paid tuition plan” which are the ones that “failed” earlier this century or is because SOME specific 529 plans are a not particularly good.
Don’t let the fact that some 529 plans are not good options cloud the fact that 529 plans are the best way to save for college.
Free Plan To Save Money For College
Here is my free, no-strings attached, financial plan for college savings:
(OK, there is one string, a link 🙂 Freelance Financial Writer
- To pick the right 529 Plan find out if your state offers a tax deduction for using your home state’s plan. If so, chances are that will be your best option, unless that plan violates one of the rules below.
- Open a 529 Plan account for your child DIRECTLY WITH THE PLAN. That is, do not buy your 529 plan through an advisor or broker. If you do, you will pay sales charges that will reduce the amount of money you are actually saving. The sale charge for investments less than $50,000 is usually very close to FIVE PERCENT (5%) or more. That means that for every $1,000 you save, you lose $50 before you invest a nickel. Unless you pay more than 5% in state income tax, the deduction is not worth the fee.
- Setup and automatic monthly investment. People spend what they have. Set and automatic investment into the 529 plan for day after you get paid. That way, the money will be out of your checking account before you even look. Start with $25 or $50 if possible, more if you can make it work.
- Whenever you get a raise, whether cost of living increase or otherwise, increase your automatic contribution timed with your first new paycheck. You WILL adjust your spending higher. Everyone does. However, you won’t adjust to spending money that isn’t there. If you get a $200 raise and increase your contribution by $20, your spending will adjust by $180. Otherwise, it will adjust to the full $200 and you’ll be somewhere explaining how you CAN’T cut any spending and don’t know where to find the money to save.
If you follow step 4 over the next two decades, you will eventually be saving much more than you can today, but you will still be taking advantage of what you can invest now getting the maximum amount of compound interest.
As for where to invest, choose the Moderately Aggressive or Aggressive option for kids under 10. After than, start moving more and more of the funds to more conservative options. By the time your child is 16, you should have 75% or more in a FIXED investment.
Start now, and you’ll save up a lot of money for college. It won’t be enough unless you are saving a few hundred per month or have big increases later, but it will make a big dent. And paying for half of university tuition with student loans is better than paying for all of it with student loans.