Student debt of over $1 trillion has surpassed credit card debt in the United States.
- When it comes to saving and paying for college, be patient and be realistic about what you can expect from financial aid.
- Start early and consider signing up for tax-advantaged accounts to make the most of your college savings.
It doesn’t matter if your kids are toddlers or teens, how you’ll pay for their college likely weighs heavily on you. And, conventional wisdom says you shouldn’t jeopardize your retirement income to help pay for your kids’ degrees.
So what can you do?
When it comes to saving and paying for college, there are two rules, according to Chris Stack, managing consultant at savingforcollege.com.
- Don’t panic
- Be patient
Remember, slow and steady wins the race. Whatever you can put away now to pay for college costs in the coming years will help. It may not seem that way when you consider the cost. For example, four years at a private university just topped $169,000, according to the College Board. But, getting scared by the numbers isn’t the answer.
Chris Stack and other college savings experts recommend these four strategies.
1. Avoid loans as much as possible
The $1 trillion in outstanding student and parent education debt exceeds all Americans’ outstanding credit card balances combined. And the average student loan balance is over $25,000, according to the 2014 fourth quarter report on household debt and credit from the Federal Reserve Bank of New York.
“No one wants a child to graduate college and start out in life behind a mountain of debt,” says Stack. The solution, he says, is being prepared for, and realistic about, college costs. Otherwise, you risk taking on debt that could jeopardize not only your children’s futures but yours as well.
2. Save. Lots. Now.
If you aren’t already, start putting away as much as you can for tuition costs. Even if your child is already a tween or teenager, it’s not too late. Painful as it can be to save large sums, it will cost you less in the long run than borrowing, says Stack.
3. Save with tax-smart accounts
You can make your savings go further by taking advantage of tax breaks on tuition savings with options such as 529 accounts and Coverdell Education Savings Accounts (CESAs).
CESAs, formerly known as education IRAs, are another option. Similar to 529s, earnings grow tax-free and qualified withdrawals are exempt from federal tax, and many times from state tax, too. CESAs are often attractive because you can use funds for private school tuition for grades K through 12 as well as for college. Income restrictions apply and contributions are limited to $2,000 a year, so many parents use these accounts in tandem with a 529.
Nearly every state offers at least one 529 account. Earnings grow tax-deferred and withdrawals are free from federal income tax if you use them for qualified education expenses. Many states also offer tax incentives, including tax deductions for contributions and tax-exempt withdrawals. For more information and rankings on 529s, go to savingforcollege.com.
4. Be realistic about financial aid
It’s easy to think that your child can rely on financial aid to cover any shortfall you may have. But, the problem is, the majority of student aid these days is loans. So, when you’re counting on financial aid, you’re really relying on borrowing for education costs — not scholarships and grants, which are harder to obtain.
Many parents also worry that a big college fund will decrease the family’s chance for financial aid. But, for the most part, it’s better to prepare for giant costs like tuition than to count on something you can’t be sure of.
That said, you can help your family’s chances of qualifying for financial aid if you save in the right types of accounts. When the federal financial aid formula assesses how much a family should contribute to college costs, it looks at what both the parent and child have saved for education costs and evaluates those amounts differently. Money saved in the child’s name is assessed at a 20 percent rate, whereas money saved in the parent’s name, which often is the case for 529 and Coverdell accounts, is assessed at a much lower rate of up to 5.6 percent. So, every $10,000 saved in your child’s name would be seen as a $2,000 contribution to college costs. That same $10,000 saved in your name would be viewed as only a $560 contribution.
Talk with your advisor about college savings and what makes sense for you.
Editor’s Notes: We thank Joanne S. Reilly, CFP®, APMA®, CDFATM Financial Advisor, Joanne Reilly and Associates – a financial advisory practice of Ameriprise Financial Services, Inc. and an Ameriprise Platinum Financial Services®practice. Visit Reilly on her website at Joanne Reilly and Associates, on Facebook and on Linkedin.