August 3rd, 2016
Funding My Child’s College
As comprehensive financial advisors, we frequently have the opportunity to help clients plan for the education of their children or grandchildren. One sentiment is almost universally true of those planning discussions: the client values providing education higher than many other financial goals, and sometimes even at the expense of those goals. While education funding is a very important goal, here are a couple of suggestions to help with the process:
Selecting a Plan
There are many options available for funding college expenses in a tax-advantaged manner. The most common, a 529 plan, permits the assets to grow without incurring tax so long as the money is ultimately used for a qualifying higher education expense (generally tuition, room, board and certain supplies). These plans are sponsored by state governments and managed by a third party. While you are not required to select the state of your residence’s plan, state income tax advantages may make your state’s plan most advantageous for you. Otherwise, consider plan costs as well as the investment lineup cost and quality. Helpful tools can be found at www.savingforcollege.com.
Beware of Overfunding
One of the challenges of using 529 plans to fund education needs is that funds not used for a “qualifying higher education expense” are subject to both a 10 percent penalty and ordinary income tax on the earnings portion of a withdrawal. These costs may be avoided by transferring unused 529 assets to another beneficiary such as a sibling, but they still must be used for a qualifying purpose. This limited flexibility can offset the tax benefit of using the 529 plan.
Pay Yourself First
The most crucial advice for college funding is not to let it come at the expense of your retirement planning. There are various ways to fund college education including merit-based scholarships, grants and loans. One of the challenges of planning for college funding is the uncertainty of what financial aid is available at the time your student begins college. However, failing to fund retirement accounts comes with the certainty of having to decrease your lifestyle in retirement. While it may not be as tax efficient, you would rather be in the position of having more money in your retirement and investment accounts than you need, rather than having more money in your 529 account than you can use toward qualified expenses.