With
student loan debt
gradually becoming what some believe will be the next major
financial crisis, saving for college has never been more
important. Yet, as if figuring out the best investments for a
regular portfolio weren't hard enough, parents saving for college
have to navigate an even more complex array of different
accounts, each of which has pros and cons. Added to the
difficulties involved in finding extra cash to set aside in the
first place, it's no wonder that so many parents simply punt and
hope their child gets a dream scholarship.
But the right solution for college savings doesn't involve
finding one perfect solution. Instead, by cobbling together an
overall strategy using
all
the tools at your disposal
, you'll likely end up in far better shape than you would if you
simply chose a single option and hoped for the best.
Yesterday was officially "529 Day," a celebration that various
college-savings advocacy groups latched onto on May 29 to raise
awareness of one of the more popular methods for saving for
college: the 529 plan. Named after the section of the Internal
Revenue Code that authorizes them, 529 plans promised to do for
college saving what 401(k) plans did for retirement saving:
provide a simple way to set aside money for college using a
variety of easy-to-understand investment options. A dozen and a
half 529 plans offered special incentives, including small
scholarships and account application fee waivers.
529 plans give savers a lot of perks
. Tax-deferred growth that becomes tax-free when money is used
for college expenses can be worth a lot when investments are
actually going up in value. But too many account holders have
seen their savings go more or less nowhere over the past several
years as the market meltdown took away much of their hard-earned
savings, leaving them to claw back to break-even over the past
three years. That's one reason why
Fifth Third Bank
(Nasdaq: FITB) ,
Zions Bancorp
(Nasdaq: ZION) , and other banking peers have started offering
insured CDs and savings accounts within 529 plans.
Even in good markets,
529 plans aren't perfect
. Some plans have fairly expensive investment options, as money
managers
AllianceBernstein
(
AB
) ,
Franklin Resources
(
BEN
) , and
Hartford Financial
(
HIG
) include actively managed options that charge much more than
index-fund choices that other plans offer. Sometimes, those
active funds earn enough extra yield to pay for their higher
fees, but often, they fall short.
The better approach to college savings combines several
different tools at your disposal. If 529 plans are the collegiate
equivalent of 401(k) plans for retirement, Coverdell Education
Savings Accounts act more like Roth IRAs. Unlike 529 plans,
Coverdell ESAs let you invest in just about anything you want.
But with annual contribution limits of just $2,000 -- and the
potential for those limits to drop to just $500 in the future --
they won't get the job done by themselves.
Custodial accounts don't carry the obvious tax breaks that 529
plans and Coverdell ESAs offer. But assuming your child is in a
lower tax bracket than you, you can effectively cut your tax bill
by putting assets in your child's name and including their income
on your child's return. The challenge with custodial accounts is
that when your child reaches the age of majority in your state --
typically 18 -- you're required to turn over assets to the child.
Many parents feel uncomfortable giving their children that amount
of freedom.
Finally, simply keeping assets in a parent or grandparent's
name retains maximum flexibility to invest and spend for expenses
that might not otherwise qualify for favorable treatment in
tax-favored college savings accounts. Even better, you typically
won't have to include a grandparent's assets on financial aid
forms, ensuring that savings doesn't penalize your child from aid
packages.
With all the different financial demands vying for your
attention, saving for college is one that's easy to put on the
back burner. But the sooner you start, the better the chances
that you'll save enough over time to make a big difference in
your child's life -- and help keep your child away from what
could become crippling debt from student loans.
But once you've got your various accounts set up, the next
step is figuring out exactly what to invest in. The Motley Fool's
special report on long-term investing has some tips you can
follow for any long-term goal, including retirement or college
savings. You'll also find three time-tested stock names that
could produce attractive returns over the long haul. I invite you
to click here and start reading your free copy right now.
Tune in every Monday and Wednesday for Dan's columns on
retirement, investing, and personal finance. You can follow him
on Twitter
@DanCaplinger
.
Fool contributor Dan Caplinger has been saving for his
7-year-old for quite a while. He doesn't own any shares of the
companies mentioned in this article. The Motley Fool owns shares
of Fifth Third Bancorp. Try any of our Foolish newsletter
services free for 30 days. We Fools may not all hold the same
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