If you’re a new parent, it might feel as though there aren’t enough hours in a day. Saving for your child’s education, though, is one area in which time is on your side.
Over the past decade, the average published tuition and fees at public four-year schools have risen 42%, adjusted for inflation, and you can bet that costs will keep going up. But you can get ahead of those rising costs by starting to save when your children are very young.
A big part of saving enough for college is knowing where to save the money. Here are some popular options.
Usually called “529 plans,” these can be either investment accounts or prepaid tuition plans. The first option lets you make after-tax contributions that grow tax-free. Prepaid plans, meanwhile, let you save for tuition at the current rate of a specific university, or group of universities with the same plan, to avoid rising tuition costs.
Any money from either plan that you don’t spend on qualified school costs will be subject to a 10% penalty upon withdrawal. If your child decides not to go to college, you can avoid the penalty by putting the funds toward another family member’s education.
Regular savings accounts offer flexibility that 529 and other plans don’t. That said, they lack tax benefits and earn little interest.
A Roth individual retirement arrangement can be a retirement and college savings account in one. Once you pay taxes on contributions, the earnings grow tax-free. Although most people can only invest up to $5,500 per year in the accounts, you can invest in a variety of securities, and any withdrawals for qualified education costs are penalty-free.
These accounts, sometimes called ESAs, work like 529 plans, but have more flexibility. Funds can go toward education costs at any point in your child’s journey from kindergarten to graduate school. Coverdell accounts are available to most families and carry a contribution limit of $2,000 a year. However, you can’t add money once your child turns 18.
Certificates of deposit, or CDs, and U.S. savings bonds are both traditional investment options. Both let you decide how you’ll lose the money and how long you’ll invest. Interest from Series EE and I savings bonds can remain tax-free if used for education, but tax benefits and returns on both CDs and savings bonds tend to be low.
As the predecessors to 529s and ESAs, trust accounts allow you to save and invest money, then transfer it to your child at a predetermined age, such as 18 or 21. Once released, the funds can pay for any expenses, including a car. They can also affect financial aid qualification.
The best way to save for your kid’s college years will depend on your financial circumstances. But finding a strategy with the right flexibility, tax benefits and contribution limits can help you maximize your savings and minimize your future graduate’s student debt.
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