6 Ways to Save for Your Child’s College Education
If you’re a parent or soon becoming one, I bet you’ve heard of one or two of these college funding options. But before you jump into any one strategy, you might want to weigh these pros and cons.
You might find that combining multiple options becomes the best fit for you and your child. And for the college non-believers, keep reading to the end.
529 Plans Explained
A 529 plan is a tax-advantaged savings plan designed to encourage saving for future education costs. It offers tax-free growth and withdrawals for qualified education expenses. One nice benefit of these plans is that up to $35K of unused money can be rolled into an IRA to jumpstart your child’s retirement. While it is called a savings plan, don’t be fooled - this is an investment so your money is at risk.
Pros: High contribution limits, flexibility for K-12 expenses, and tax benefits.
Cons: Limited investment options, penalties for non-qualified withdrawals, risk of loss to principal investment, and potential impact on financial aid.
Roth IRA for College Savings
A Roth IRA allows contributions to grow tax-free and can be used for both education and retirement savings. Withdrawals are tax-free if used for qualified education expenses. Keep in mind that contribution limits are lower so the account cannot build as much as a 529 plan over the same period of time. Not to mention, this is still an investment so there is always a risk that your money can lose it’s value.
Pros: Flexibility for education and retirement, tax-free growth and withdrawals.
Cons: Lower contribution limits, income limits for contributions, risk of loss to principal investment, and can only be used for retirement or qualifying education expenses.
Brokerage Accounts
Brokerage accounts offer flexibility in investments but lack tax benefits for education expenses. In this way, they are really just a 529 Plan with more risk and less tax benefits. Be wary of the market risk and consider the sequence of returns risk when you approach those college years when withdrawals begin.
Pros: No contribution limits, investment flexibility, and use for any purpose.
Cons: No tax benefits, risk of loss to principal investment, and potential impact on financial aid.
UGMA/UTMA Accounts for Education
Uniform Gifts/Transfers to Minors Act (UGMA/UTMA) accounts allow gifts to minors, taxed at their lower rate, but the child gains control at the age of 18 so you as a parent cannot control what they use that money for.
Pros: Tax benefits, easy setup, and flexibility in use.
Cons: Loss of control for parents, significant impact on financial aid, risk of loss to principal investment, and tax implications.
Parent PLUS Loans: Pros and Cons
Parent PLUS Loans are federal loans for parents to cover education expenses, with fixed interest rates and repayment terms. These might make sense if your child is closer to college age already and you don’t have savings available for their college expenses. This option allows you to take on the debt instead of your child but this has its’ drawbacks if you are not properly prepared for your own future costs. If you haven’t heard me talk about the pros and cons of Parent Plus Loans, check out this YouTube video where my colleague’s and I discuss these loans and other types of debt.
Pros: Availability, fixed interest rates, and flexibility in use.
Cons: Higher interest rates, credit check required, added origination fee, and immediate repayment begins.
Bank On Yourself® Policy Loans
Bank On Yourself® is a specially designed whole life insurance policy that grows wealth even while policyholders access the cash value. The cash value can be leveraged for anything you choose, including education expenses.
Unlike UGMA/UTMA accounts where you lose control of the account when the child turns 18, you can decide when to turn over a Bank On Yourself policy to your child. In other words, it’s up to your discretion when they are financially saavy and responsible enough to take ownership of the account.
The flexibility, parental control, and tax advantages arguably make this one of the best ways to save for college expenses. Anytime a policy is created with a Bank On Yourself® Professional, the policy owner has someone with them at every step of the way. We meet with clients every 6 months to discuss their latest goals and track how their policy may help them achieve those goals. This is a resource clients can lean on at any time to get their questions answered.
Pros: Guaranteed growth components, tax-advantaged, flexibility in borrowing, no impact on financial aid, you determine when to turn the account over to your child, low loan rates, flexible payback period, added benefit of life insurance, and a professional to help coach you child on how to use their policy
Cons: Loans must be paid back over time to prevent risk of policy lapse but you have more freedom in your payback schedule than a traditional loan.
What if college isn’t on the table for your child?
49% of people feel it’s “less important to have a four-year college degree today in order to get a well-paying job than it was 20 years ago”. If your child decides not to go to college but you still want to help them get started in their adult life, you still have options.
A Roth IRA could be turned over to the child to give them a jump start on retirement savings. Money from a brokerage account can be given to the child to help them get started, although be aware of the gift tax limits if you give them money from an account that is in your name. Or, you could create a Bank On Yourself® policy in their name when they are born. This last option also gives them insurance coverage for life (no matter what health complications could arise in their future), can be used for their retirement, and they can leverage the cash value at any time for any expense. These options provide a bit more flexibility to aid in whichever dream your child pursues.
Want to Learn More About the Benefits of Bank On Yourself® Policies?
At Foundational Wealth Builders, this is one of the financial tools we help clients set up for themselves and their families. We work with highly reputable insurance companies to design the best option to meet our clients needs. Our process starts with a deep dive into your financial goals and background, from which point we create a personalized strategy tailored to your specific needs.
Our services are provided at no direct cost to you. Instead, we are compensated by the institutions we collaborate with, but only when you choose to move forward with one of their products. This arrangement allows us to focus on providing personalized guidance without adding financial pressure to our clients.
