Saving for College: What Parents Should Know

 

When it comes to financial planning for major life events, the more lead time you have, the better. Despite this, many parents find themselves in a last-minute scramble to fund their child's college education.

Helping your child avoid student debt is a process that can start the day you bring them home from the hospital—or even sooner. Here are some college-saving strategies to consider at every stage of your child's life.

 

 

Up to 8 years old

Between potty training, finding the right preschool, and tracking screen time, new parents have a lot on their hands. It's easy to let things slip through the cracks, but it's important to make saving for college a priority. Key options:

 

Start a 529 account

A state-sponsored 529 plan is like a 401(k) for education expenses. You invest in stock or bond funds (many plans employ a "target-date" strategy that grows more conservative over time). But you also get tax breaks: Withdrawals are federal tax free when used for "qualified" education expenses. These include tuition, room, board—even if the student lives off-campus—and required supplies. And depending where you live, you may be able to snag a state break as well.¹

What's more, 529 money is portable: If there's a balance left after college, or the beneficiary (child) ends up not attending college at all, the account owner (typically you) can switch to a different beneficiary, including relatives by marriage or adoption.

Anyone can open or contribute to a 529, even if they're not a parent or relative. (Think birthday gifts.) In many states, those who contribute get a tax deduction or credit.²

You can even open a 529 before a baby is born by listing one parent as the beneficiary. (Afterward, you can change the beneficiary to the child without penalty.) Having a baby shower? Include a link to the 529 account along with the registry!

These plans offer other benefits as well; talk to a financial professional for details.

 

Consider a custodial account

Uniform Gifts/Transfers to Minors Act (UGMA/UTMA) accounts let parents or other adults give money (or, with UTMAs, other assets) to a child. Investment gains are taxable at the child's (usually lower) rate. The custodian (you or another designated adult) manages the account until the child turns 18 to 21 (depending on their state's rules), when they take full control.

And unlike 529s, money in a UTMA or UGMA doesn't have to go toward education. There's no penalty if, say, your adult child taps the account to buy a car and drive right past campus.

Also, because custodial accounts are the child's property, they'll count more than parents' assets when it comes time to apply for financial aid. (More assets = less aid.)

 

The grapes of Roth

Some parents use a Roth IRA to help save for college. Investment options are as wide as your financial provider allows. Unlike a traditional IRA, you fund a Roth with after-tax dollars—but while you can't deduct contributions on your taxes, withdrawals are tax-free if you're at least age 59½.

The downside: Contributions are limited—currently to $6,000 a year ($7,000 if you're 50 or older)—which might not be enough to reach your goal. So, you might want to use a Roth to supplement other college savings.

 

Other account options

• Coverdell ESAs.

  If you don't want to open a 529, consider a Coverdell education savings account (ESA). Like Roth IRAs, ESAs offer more investment options than 529s, and the tax treatment is similar: You invest after-tax dollars and can withdraw tax free if the money goes toward education expenses. But contribution limits are even lower: just $2,000 a year. Also, if your income is too high, you can't open a Coverdell account at all.

• Prepaid tuition plans.

  The price of tuition has soared in recent years—up 25% from 2008 to 2018, reports the College Board³—and shows no signs of slowing.
  That's where a prepaid tuition plan could help. These plans let you pay now to lock in future tuition at an in-state public school at the current cost of attending. They often pay out a certain amount similar to the average or median of the public universities in that state.
  
  The downsides: Only 10 states are enrolling new parents.⁴ And your child could choose to attend a private college and/or go out of state. (In that case, you might be able to transfer credits based on a formula, but it will cost more.)

 

 

For ages 8–13

As your child gets older and the prospect of college becomes more tangible, it's time to bring them into the conversation:

 

Keep saving

If your child starts working or earning an allowance, encourage them to save part of their earnings in the 529. You can motivate them by matching their contributions. If they get a summer job mowing lawns and save $500 in their 529, you can contribute another $500.

You can also do this anytime your kid puts money in the 529 instead of spending it. For example, if they get $50 from Grandma and put it in the 529, add another $50 as a continued incentive.

This is a classic strategy used by parents helping their kids save for a car. It promotes responsibility and is an easy way to demonstrate that good things happen when you save money.

 

Talk about costs early

Most parents spend years encouraging their kids to get good grades with an eye toward college—and almost no time talking about the eventual cost.

Start the conversation when your kids are in seventh and eighth grade. Discuss the costs of college and which kind of experience (public vs. private, in-state vs. out, on-campus vs. commuting, no break vs. gap year) you expect to fit into your budget.

Even so, don't make blanket statements about, say, the high price of private universities or a need to focus on certain subjects; when the time comes, you might find your assumptions were off the mark academically and financially. But it's far better to plant the seeds when your child is 13 than to hit them with potentially harsh reality while they're getting dressed for senior prom.

No question, talking college costs and your financial boundaries may be uncomfortable. But making your child part of the conversation about their future will make it easier to discuss their options as they get older.

 

For ages 14–18

Once your kids enter high school, it's time for them to start seriously thinking about their college application strategy, including how to pay for their dream school:

 

Encourage their interests

You might assume your child needs to be involved in all kinds of activities to impress scholarship committees and admissions counselors. In reality, less is often more.

"It's always better to show a true commitment versus a surface level involvement in more activities," says Jocelyn Pearson, who graduated from college debt-free via scholarships. Pearson founded The Scholarship System, a course that has helped students earn $2.3 million toward college costs.⁵ "Ultimately, it's not so important what the activity is," she notes, "but more so the level of passion and involvement that can increase a student's chance of winning scholarship money."

Indeed, college admissions officers prefer to see four years of increasing dedication to one extracurricular activity than a year of this and a year of that. If your child prefers performing in the school musical to building robots or learning to code, don't force them to go the STEM route. Let them feel free to pursue their passion.

And when it comes to extracurriculars, it can pay to think strategically. For example, if your child is musical, they'll have a better chance at snagging scholarship money playing a less-popular instrument (say, bassoon) than a popular one (violin). Similarly, among athletic scholars, fencers tend to stand out far more than football players.

 

Have them take advanced classes

Some high schools offer advanced placement (AP) classes for subjects like English, science, math, and languages. After taking an AP class, your child will sit for an AP exam.

If they score well, usually a 4 out of 5 or higher, the university they apply to may count that class as college credit. (Even scores of 3 sometimes rate general credits—i.e., not toward their major—at certain schools.) This can save you thousands of dollars in tuition and may even let your child graduate early.

Doing well in AP classes also improves your child's chances of admittance to a university that really wants them—and could put up scholarship money to prove it—because it shows they're willing to challenge themselves.

Some high schools offer International Baccalaureate^® (IB) classes, which are similar to AP classes. Universities may also offer your child college credit (or let them skip basic classes) if they score well enough on the IB exam.

While students taking honors classes won't directly earn college credit, they may see another benefit to taking harder classes.

"A perfect GPA without any challenging courses,” Pearson says, “won't look as good as a not-so-perfect GPA with challenging courses like AP and honors."

 

Snag community college credits

To save money, if your child's school has few AP options, they should consider taking community college classes whose credits will transfer to a four-year university. (One such credit costs just $135 on average, versus $325 at four-year public colleges [for in-state students] and $1,039 at a four-year private school.⁶)

This strategy works best if your child plans to attend a public school (particularly in state), since many out-of-state schools (and virtually all private schools) won't accept transfer credits from another state's community colleges.

Your child should take these classes during the summer (to avoid interfering with their regular schoolwork) or after high school (to get credit for prerequisites they'll need at a four-year school).

Also, some high schools have relationships with local community colleges that offer credit for certain high school classes—essentially enabling you to prepay some college bills at relatively low costs.

 

Start applying for scholarships

You might think scholarships are limited to high school seniors. But plenty allow applications from younger students. (The Federal Student Aid website Opens in new window has more information.) Be sure to research scholarships that fit your child's interests—but don't overlook those that seem unrelated at first glance.

"There are tons of scholarships for those in lower grades, but ideally students should begin no later than junior year in high school," Pearson says. Once senior year arrives, add scholarships from local organizations into the mix; those often have fewer applicants, making them easier to get.

If your child struggles to find time for scholarship work, remind them of how it will help their future self. If your child has a job, compare the scholarship amount to how many hours they'd have to work to earn that same sum. For example, if they earn $10 an hour babysitting, explain how a $300 scholarship is worth 30 hours of work. Putting it in context can motivate your child to put in the effort.

 

Mind the gap year

While it's common outside the U.S., more and more American students (particularly given COVID-19 uncertainty) are taking "gap" years between high school and college. This lets them gain work experience, learn more about their interests, and save money for college.

As your teen gets older, talk to them about the possibility. Make clear that it's OK—and could even be beneficial—if they don't go to college right after high school. (They can still apply during their senior year but defer enrollment for a year.)

 

Start early to minimize loans

No matter how old your kids are, you can control how much they'll have to borrow for school in the future. For example, try to limit them to federal loans, which usually have lower interest rates and more flexible repayment options than private loans. If your child loses their job, payments on federal loans are also easier to defer.

To illustrate how debt can weigh down your child's future, use a student loan simulator Opens in new window. Giving them a concrete idea of life with student loans can prevent them from borrowing $70,000 to end up in a job that pays $35,000.

 

Footnotes

Zina Kumok is a freelance writer specializing in personal finance. She has written for the Associated Press, Indianapolis Monthly and more. She also writes a blog about how she paid off her student loans in three years.

For Compliance Use Only:1039942-00001-00

 

1. ¹"State tax deduction or credit for contributions," SavingforCollege.com
2. ²Kathryn Flynn, "529 plan gifts may be deductible on state income tax returns," SavingforCollege.com, Nov. 29. 2018
3. ³Abigail Hess, "The cost of college increased by more than 25% in the last 10 years—here's why," CNBC Make It, Dec. 13, 2019
4. ⁴Kathryn Flynn, "Prepaid tuition plans," SavingforCollege.com, Apr. 28. 2020
5. ⁵Jocelyn Paonita Pearson, "Meet the Founder," TheScholarshipSystem.com
6. ⁶Elyssa Kirkham, "Study: Here's How Much College Credits Actually Cost," Student Loan Hero, Jan. 24, 2018