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Best Way to Save for College

Here’s a real-life scenario: If your child who was born in 2016 begins kindergarten in the fall of 2021, he’ll be in college from 2034 to 2038. Let’s say he/she chooses to attend an average private 4-year college.

The aggregate 4-year cost of your child’s college education will total $490,502, or $122,625 per year as long as the average annual price increase (+5.2% per year) continues into the future.

Next to buying a house, college could be the largest financial investment you will make — depending on how much you plan to commit to your child’s education. Planning for tuition, books, room, board and fees depends heavily on your needs and timeline.

Quick Look: The Best Ways to Save for College

  • Create financial targets. Depending on how old your children are and the years you have to save, begin making plans as to how much you’ll need saved by the time they’re all college-aged.
  • Consider all your options. Savings plans include 529 Plans, ESAs and more options we explore below.
  • Automate your savings. No matter what savings you’re working towards, automating your savings with an efficient savings/budgeting app will help you reach your financial goals.

Overview: Saving for College 

How to save and how much to save for college depends primarily on when you need to start paying tuition. If you’re the parent of multiple young children close in age, fast forward 18 years, and several kiddos could be in college at the same time. 

What to consider before you start saving

Parents of young children, you have time on your side. Depending on your family’s financial situation and number of children, it may be helpful to set a financial target tied to a specific outcome.

For example, you may decide to pay in-state tuition for each child, whatever that may be at the time, choose to save a set dollar amount or shoot for saving every penny for a private school education.

College choice is the #1 determinant to how expensive your child’s college experience will be. The cheapest options are usually community colleges (or any school that will give you a major scholarship). 

Another thing to consider is your child’s intended degree and career path. A private school education, including Ivy League, may result in increased earning power along with its increased price tag. That also depends on your field of study as well.

If you plan to gain an accounting degree to become a CPA at a medium-sized tax firm, it does not matter whether you attended Harvard or your local state university. If, on the other hand, you aspire to work for a prestigious business consulting firm that hires mostly Ivy League grads, you should go to an Ivy League school. 

Regardless of where you study or what you study, your chosen career path should have enough earning power to make your college investment worthwhile.

Paying $100,000 per year at a private university for an undergraduate degree in sociology, then making $45,000 a year may not be a worthwhile investment. This is especially true if you could have gotten the same education at a public in-state school for $40,000.

The U.S. Department of Education compares school tuition costs with average salaries of their alumni.

Source: www.collegescorecard.ed.gov

1Tuition, room and board and other school-related fees are just 1 component of college costs. Living expenses and books are another chunk. Making smart and frugal decisions on all other college-related expenses can save you tens of thousands of dollars.

Paying to live in a residence hall and buying a meal plan can add an additional $12,000 or more in costs.

Living in a cheap off-campus apartment with roommates and cooking your own food, or even living at home and commuting can cut those costs dramatically. Stick to a budget and engage in cost-saving measures like buying used books can help lower overall costs. 

How to Save for College

Once you’ve determined your overall savings targets that fit you and your family’s educational needs, now it’s time to decide what savings vehicle works best for you. Here are a few options:

529 Plans

529 plans, also known as qualified tuition plans, are state-sponsored college investment accounts which invest funds based on the current age of the child beneficiary and the anticipated year he or she will attend college. 

You can decide between two different types of 529 plans: prepaid tuition plans and education savings plans. All 50 states and the District of Columbia sponsor at least one type of 529 plan. In addition, a group of private colleges and universities sponsor a prepaid tuition plan.

Prepaid Tuition Plans

Prepaid tuition plans allow you to purchase future credits and tuition at a participating institution at today’s prices. You usually cannot pay for future room and board, however, and unlike education savings plans, you cannot prepay tuition for elementary, middle and high school. You’ll have to make sure you fulfill the residency requirement as well.

Educational Savings Plans (ESAs)

You can choose a static 529 plan or a lifecycle fund (also called target-date funds), which means they’re more aggressive when the child is younger and grow more conservative as they turn 18 and you must withdraw the fund.

These accounts provide federal and state tax deductions for your contributions, which helps you lower your overall taxable income amount. Friends and family can also make contributions. 

The biggest tax benefit is that your contributions grow tax-free and are not taxed when you withdraw them. Each state’s rules, fees and investment portfolio is a little different, but you don’t have to choose your own state’s plan if you don’t like it, so feel free to select another state’s plan that best fits your needs.

These funds can only be used for educational purposes. 529 plans have recently expanded to include tuition at elementary or secondary schools for up to $10,000 in annual withdrawals from a 529 plan. Funds can be withdrawn only for qualified educational expenses and if not, will incur a 10% penalty and be subject to taxes. 

You also can move 529 funds between siblings by changing beneficiaries on the accounts or transferring the funds. Since 529 plans are lifecycle plans based on a long-term investment strategy, these could be a good choice for families who have started saving for young children who have a decade or more to go until they start college.

UGMA/UTMA Custodial Accounts

The Uniform Gift to Minors Act (UGMA) and Transfer to Minors Act (UTMA) allows anyone to open an investment account for a minor child. An adult can act as a custodian. The funds transfer to the child when they become of age to take over the account, between 18 and 25, depending on the state’s laws. In the meantime, the custodian may withdraw funds from the account for the child’s use. 

Funds do not have to be used for an educational purpose so these accounts are also a great way to pay for living expenses, a car and any other future needs for the child.

You have more control over which investment vehicles you select and there is no limit to your contributions. You cannot change beneficiaries of a UTMA account and the money does not grow tax-free, though it is taxed at a lower rate for estates and trusts. 

These are also a good choice for families who are not sure if their children will attend college and want to have a backup plan for another purpose.

Certificates of Deposit

Depositing a chunk of cash in a certificate of deposit (CD) is a safe way to store future college tuition cash for the short term and earn a little interest on it.

The funds are also FDIC insured and provide a guaranteed rate of return of 2% to 3% over a fixed term, 60 days to up to 2 years. CDs have a minimum deposit of $500 to $25,000, depending on the bank, rate and term. These are great short-term investment vehicles that steadily earn money while you wait to use them.

Investment Accounts

There’s no law that states that you have to stick with a 529 plan or another type of education-oriented account. You can invest in stocks, bonds, mutual funds and more. Get an idea of how you want to invest and consider your risk tolerance.

From online brokerages to traditional financial advisors, investment accounts provide an alternative way to fund education.

There’s an App for That

Apps like U-Nest are designed to help busy parents find the right college savings plan for their kids and to create a custom savings plan. You can open low-fee accounts through the app, set up automated savings transfers and let friends and family make contributions to your kids’ accounts. 

Upromise offers cash back on everyday purchases at restaurants, online or using the Upromise branded credit card, which gets deposited into a linked 529 college savings account. A great budgeting app can also help you to save for college by helping you to keep an eye on your finances and allocate money into savings each month.

Automate Your Savings

Whatever type of account you end up selecting, automating your savings is the key to success. When you put money into your child(ren)’s college fund, you make saving and planning for the future a priority. 

There are several ways to set up an automatic savings transfer, depending on your needs. You can set up a monthly payment to the 529 plan or investment account of your choice and have each child’s monthly contribution come out of your account like a regular monthly bill.

You can also set up monthly automatic transfers to your savings account and roll that money into a certificate of deposit when you reach a deposit threshold. 

One of the best ways to set up automated savings is to have some money diverted out of your paycheck into the college savings account of your choice. That way, you never see the money go into your account and won’t accidentally spend it.

Final Thoughts

Saving will take discipline, but choosing the right financial products and accounts along with careful planning can make it easier for you to budget and grow your money into a solid college savings account.

Check out our other guides on managing money in college with how to save money during college or ways to make money during college.

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