Crayons, Spiral Notebooks and….529s?
Provided by RBC Wealth Management and Donald Cussen
A new school year is just around the corner. Whether you’re still buying crayons or preparing your child for the first year of high school, it’s never too early to study up on how you can help your kids pay for college when that time arrives.
For the 2014-15 school year, the average cost of tuition, fees, room and board was nearly $19,000 at a public, four-year school and more than $42,000 at a four-year private institution, according to the College Board. And those costs may be considerably higher by the time your children are ready for the dorms.
But the return on an investment in a college education is hard to argue with. The average college graduate will earn about $1 million more over the course of their career than the average high school graduate, according to the U.S. Census Bureau.
Of course, you don’t have to bear the entire burden of paying for your child’s college education yourself. Your children may receive some financial aid, such as loans or grants. And through part-time work, they may be able to help pay some of their college costs. Still, those sources of income likely won’t cover the full cost of college, so you may want to help. But how?
When putting away money for their children’s education, more parents use a general savings account than any other method, according to Sallie Mae’s How America Saves for College 2015 study. While these accounts may be pretty safe as far as protecting your principal, they pay little or no interest, and they typically offer no tax benefits.
So, you may want to look at some other possibilities, such as these:
• 529 plan – When you invest in a 529 savings plan, your money is professionally managed, and you have a variety of investment options from which to choose. Earnings in a 529 plan accumulate and are distributed free from federal tax, provided they are used for qualified higher education expenses. (529 plan distributions not used for qualified expenses may be subject to federal and state income tax and a 10% IRS penalty on the earnings.) Also, your 529 plan contributions may be deductible from your state taxes. However, state tax laws and 529 plans vary, so be sure to check with your tax advisor regarding deductibility.
A 529 plan offers other benefits, too. For one thing, the lifetime contribution limits are generous; while these limits vary by state, some plans allow contributions well in excess of $200,000. And a 529 plan is flexible: If your child decides against college or vocational school, you can transfer the unused funds to another family member, tax and penalty free.
As an alternative to the savings plan, you could choose a prepaid 529 plan, which lets you pre-pay all or part of the costs of an in-state public college. Typically, these plans also can be converted for use at private and out-of-state schools. Overall, though, a prepaid plan will not provide you with the flexibility of a 529 savings plan.
• Coverdell Education Savings Account – A Coverdell Education Savings Account, like a 529 plan, can generate tax-free earnings if the money is used for higher education expenses. You can typically only put in a maximum of $2,000 per year to a Coverdell account. You can choose the individual investments that go into your Coverdell account, similar to how you pick investments for a traditional or Roth IRA. So, in this sense, you have somewhat greater control over your investments in a Coverdell account than you do with a 529 savings plan.
• Zero-coupon bonds – You might want to invest in a zero-coupon bond that matures just when your child is ready for college. You won’t receive regular interest payments with a zero-coupon bond, but you purchase it at a deep discount, so you might find the affordability to be attractive. (Be aware, though, that even though you don’t actually receive the interest payments annually, you’ll still be liable for the taxes on them, so before purchasing a zero coupon bond, consult with your tax advisor). Like all investments, of course, zero-coupon bonds carry some risks, the most prominent of which is that they can be more volatile than other bonds and are sometimes hard to sell on the secondary market before they mature. But for people want to use zero-coupon bonds for college, the goal is to hold the bonds until maturity and then use the proceeds for school.
While it may seem too early to think about college for a child whose school supply list still includes glue and crayons, you don’t want to wait too long to start putting money away. Explore your college savings options carefully to determine the one — or ones — that are most appropriate for your needs. Your kids may be young today, but “tempus fugit” — time flies.
This article is provided by Donald Cussen, a Financial Advisor at RBC Wealth Management. The information included in this article is not intended to be used as the primary basis for making investment decisions. RBC Wealth Management does not endorse this organization or publication. Consult your investment professional for additional information and guidance.
RBC Wealth Management, a division of RBC Capital Markets, LLC, Member NYSE/FINRA/SIPC
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