How to Afford Your Child's Education

Ways to Save for College

If your child is already in middle school or high school, you may be scrambling to prepare for college financially, but don't panic. There are several ways to save for your child's college education while making the most of every dollar you set aside. From tax-advantaged plans to prepaid tuition plans, here are some of the best strategies for getting caught up before your kid leaves the nest — plus tips for managing costs and making sure your own finances don't suffer as a result.

1. 529 college savings plans

All 50 states offer a 529 plan, and you can contribute to any state's plan. Contributions grow federally tax-deferred (and in some cases also state tax-deferred if you purchase one offered by your state of residence). In addition, withdrawals are 100% tax-free when used for qualified education expenses, including:

• Tuition and fees
• Room and board for students enrolled at least half-time
• Computer equipment and software

The amount you can contribute to a 529 plan varies based on which state you live in. Depending on the plan you choose (your options vary by state), the lifetime contribution limit for your 529 plan will typically be between $235,000 and $550,000.3 Some plans have annual contribution limits, and there may be federal gift tax implications as well.

If your child named on the 529 account doesn't use all of those funds while in college, then you can change the beneficiary on the account to another child.

With a 529 plan, the money you contribute can often be invested to accelerate your growth over time. Talk with a trusted financial advisor about your options.

2. Coverdell education savings accounts

Like a 529 plan, a Coverdell education savings account (ESA) also allows earnings to grow on a tax-deferred basis, and withdrawals are free as long as you use the money to pay for qualified education expenses (such as tuition, books, room and board, etc.). 4

Unlike 529 plans, however, Coverdell ESAs have strict annual contribution limits, with a current annual maximum of $2,000 per student (or less, if you have a high annual income). However, you can have both a 529 plan and a Coverdell ESA for your child, which allows you to take advantage of both types of accounts to save for your child's college education. Your financial advisor can guide you on whether one or both of these account types is the right vehicle for your savings goals.

3. Prepaid tuition plans

A prepaid tuition plan5 allows you to buy future college credits for your child at a locked-in price today. Assuming that tuition rates increase by the time your child goes to school (which is almost inevitable), this can mean a significant discount. To use the prepaid credits, your child must attend a public or private university that participates in a state-sponsored prepaid tuition plan. If your child opts to go to a school that doesn't accept prepaid credits, you can still apply the money you've saved for college expenses. But you'll pay the current rate for tuition, fees, and room and board, not the locked-in price.

If your child decides not to go to school at all, you still have options. For example, you can transfer the savings to that child's sibling. And if there is no sibling to use the money, you can ask the plan to refund your original contributions. Be aware, though, that you may not be able to receive any interest earned on those contributions, and you may have to pay a fee for cancelling your plan.

4. UGMA and UTMA accounts

UGMA (Uniform Gift to Minors Act) and UTMA (Uniform Transfer to Minors Act) accounts are custodial accounts that allow you to hold money on a tax-advantaged basis for your child until they become an adult (typically age 18 or 21, depending on the state). Earnings over a certain threshold are taxed as earned, at the child's rate, until reaching another threshold — over which earnings are taxed at trust rates (which is a type of income tax on money held in a trust).

With these accounts, any unused money must be distributed by the time the child reaches the age of majority or the maximum age allowed for custodial accounts in their state. Plus, there's no ability to transfer any unused money to another beneficiary.

Talk with a trusted financial advisor for more information about UGMA and UTMA accounts.

College Savings Tips

If you feel behind on saving for your child's college education, these tips can help with developing a strategy for managing college costs and maximizing savings.

• Set realistic expectations with your child. If your child has a "dream" school on their wish list that may be out of reach financially, talk to them about how much you'll be able to contribute and whether they may need to apply for scholarships or take out loans to fill the gap. Help them create a list of alternative schools that may be more budget-friendly.
• Discuss the possibility of splitting costs. You should also talk to your child about having a financial stake in their own education. That could mean participating in a work-study program or working off-campus to help pay part of their college expenses.
• Encourage family members to pitch in. Grandparents, aunts, uncles, and cousins may help with college saving. Consider asking for contributions to your child's college fund instead of gifts for birthdays and holidays.
• Keep your own retirement top priority. It may be tempting to take money from your 401(k) to help pay for college, but that can put your retirement security in jeopardy. In addition, a 401(k) withdrawal prior to age 59 1/2 triggers a 10% tax penalty, as well as ordinary income tax. Bottom line: resist the urge to tap into your 401(k) plan or reduce your contributions temporarily.
• Get professional advice from a financial advisor. Finally, and perhaps most important, seek out professional advice from a trusted advisor when exploring your college savings options.

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