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Investing In Your Child's College - No Matter the Market

Oct 14, 2009 Jennifer Williamson, Distance Columnist | 0 Comments

Personal investments not doing so hot these days? You’re not alone. This economy makes it tough for families to grow their savings—including savings for children’s education.  Many parents are saving less now for college tuition than they were a decade ago—and some aren’t saving at all.

That’s bad news—especially since college tuition is rising. According to the College Board, tuition and fees have risen an average of 2.4% per year after inflation over the past decade, regardless of economic conditions. In past years, students turned to private loans to bridge the gap between public aid and rising tuition costs—but in today’s tight economic conditions, banks are tightening their restrictions on college loans.  It’s never been tougher to get an educational loan.

Because of this, it’s crucial for parents to save for children’s college tuition as much as they can. Here are a few options that make saving for college tuition easier.

529 College Savings Plans

College Piggy Banks

These savings plans are state-funded accounts that allow parents to put money away for children’s college expenses. The savings are exempt from state and Federal taxes. However, you’ll need to be careful when you withdraw funds—if you withdraw more than is needed for your child’s college expenses, some or all of the withdrawal may be taxed as income.

As for how 529 plans affect your child’s financial aid assessment, it’s complicated. 529 plans held in the parent’s name are assessed as part of the parent’s income. But when you withdraw from the savings account to pay for your child’s tuition, the withdrawal is not counted as base-line income on the next year’s financial aid assessment. In addition, many schools take 529 savings accounts into consideration when distributing their own need-based aid.  

Prepaid Education Arrangements (PEA’s)

Also known as 529 prepaid tuition plans, these plans allow parents to purchase college tuition in the future for present-day prices. These funds are only applicable to public, in-state colleges, and the state guarantees the value of the fund to meet or exceed tuition inflation rates in-state. 

There are two ways you can pay for college through these plans—by purchasing “units” of college tuition, or by contracting to buy one, two or more years of tuition at once. These plans are low-risk and stable, particularly for parents who know where their children will go to college.  

If your child wants to attend a private or out-of-state institution, however, the funds may not be transferable—and you may be eligible for expensive penalties if you try to cancel the contract.

UGMA and UTMA Custodial Accounts

College Piggy Banks

With the right plan, you should be able to use tax and financial aid laws and regulations to your advantage when saving.

In most of the United States, minors can’t enter into contracts legally—and so can’t own stocks, bonds, mutual funds, and other investments directly.  If parents want to invest in their children’s names, the investments must be placed into a trust—and the most common kind is a custodial account. Usually, that requires a lawyer to draw up appropriate legal documents and a court to appoint a trustee.

Through the Uniform Gift to Minors Act (UGMA), parents can invest for their children without these requirements. Under the Uniform Transfer to Minors Act (UTMA), children can also own and inherit assets such as real estate, patents and fine art.

You can use these types of accounts to save for children’s college tuition as well—but they do have some drawbacks. They are taxed under the parents’ income bracket, but they are reported as the child’s assets under Federal financial aid rules—and children’s assets are rated significantly higher than parents’. And once your child turns eighteen, he can use the money for anything without your permission—and he may not decide to use it for college.

Saving for college isn’t easy—especially in today’s economic conditions. Make sure you understand the tax and financial aid implications of any savings account before you open one—find an account that allows you to keep the money under your name and that allows you control over the funds for the duration of the child’s education.  With the right plan, you should be able to use tax and financial aid laws and regulations to your advantage when saving.



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