Three Numbers to Remember: 5 – 2 – 9. Every year we hear that private and public college education costs are rising. And now we hear that college graduates’ debt loads are climbing right along with tuition prices. (According to the New York Times in 2011 the average undergraduate who borrows leaves school with about $30,000 in debt.) The economic downturn of a few years ago added some discouraging footnotes to this fact, including a burgeoning list of students dependent on financial aid from higher education institutions and disturbing headlines now asking "Is it worth it to go to college?"
A new era?
To many parents and grandparents, it seems like everything is changing. A four-year degree has been as much a part of the American dream as home ownership, and yet today’s youth is facing a shrinking or stagnant economy with more employment openings in “low skilled fields.” High school graduates have to weigh the possibility of incurring tens of thousands of dollars worth of debt to earn a four-year degree that may offer very little in terms of immediate earning potential.
But not so fast - the Bureau of Labor Statistics estimated that those with a bachelor's degree earned almost $460 more per week than those with only a high school diploma in 2015. A college education still provides key opportunities and employment advantages, so the question remains - how to keep up with rising tuition and fees?
As always, savings plans can save the day.
In keeping with the new economic reality, there are no quick fixes to the college tuition challenge, but there are options for anyone interested in helping a family member pay for college. One option you should consider is a 529 Plan.
What is a 529 Plan? First created in 1996, these savings plans are offered in all 50 states and Washington, DC. Generally, you can open and contribute to any state plan you wish – regardless of where you live, or what state the student will attend college. Note that your state of residence may offer tax savings incentives to invest in their sponsored state plan, which is an important factor when comparing plans.
There are two types of 529 plans: prepaid and savings plans.
Prepaid tuition plans allow parents, grandparents, and other interested parties to purchase future tuition at today’s rate. The pre-paid 529 program will then pay the future college tuition of the beneficiary at any of the state’s eligible colleges or universities (or comparable payment to private or out-of-state institutions).
Savings plans enable participants to save money on behalf of a designated beneficiary. The plans offer various investment options ranging from fixed income to equities.
In addition to serving as a savings vehicle specifically for higher education tuition and associated costs like room and board, 529 Plans provide key advantages:
- Although your contributions are not tax deductible on your federal return, the growth experienced during the life of the plan is deferred – with tax-free distributions when used to pay for qualified higher education expenses. Some states (like New York and Vermont) even offer residents a deduction or credit on state income tax returns.
- Once the plan is established, you will not receive any 1099s until you start making withdrawals. Dependent on the state plan, there are limits to how much an individual can contribute to a 529 account, but these limits can be as high as $305,000.
- These plans provide a vehicle to transfer money from your estate, while still maintaining control of the account and positioning the money to eventually be spent on higher education. If you have established the account for a child who later decides to skip college, 529 savings plans allow you to change the beneficiary to an immediate family member of the original beneficiary.
- For gift and generation-skipping tax purposes, contributions are treated as a gift to the named beneficiary. As of 2016, 529 contributions qualify for the $14,000 ($28,000 for couples filing jointly) annual gift tax exclusion. Should you wish to contribute over $14,000 or prepay up to $70,000, you are allowed to treat these savings as if they were made over a five-year period for gift tax purposes. This may be a very attractive option for those looking to lower their estate tax liability sooner rather than later.
- Another big advantage of 529 Plans? Since 2006, Unified Gift to Minors Act assets held within a 529 savings plan are no longer included with other student-owned assets in the formula for determining the “expected contribution” towards college costs. What used to count against aid eligibility at the rate of 35 percent is now calculated at no more than 5.64 percent of value for parents holding the account, or not at all if the account is owned by grandparents.
Although college costs are beyond your control, these educational savings vehicles provide you an easy way to prepare your family’s student(s) for the challenge of higher education funding. Once you review the 529 plan options and decide which is the best fit, enrollment is very easy and automatic deposits begin to build that "education nest egg."
New York Times; Student Debt in America: Lend With a Smile, Collect With a Fist article (Nov 27, 2015) http://www.nytimes.com/2015/11/29/upshot/student-debt-in-america-lend-with-a-smile-collect-with-a-fist.html
Heidi Clute, CFP® of Clute Wealth Management in South Burlington, VT and Plattsburgh, NY, an independent firm and registered investment advisor that provides strategic financial and investment planning for individuals and small businesses in the Lake Champlain Valley region. The opinions voiced in this material are for general information only and not intended to provide specific advice or recommendations. For a list of states in which we are registered to do business, please visit www.clutewealthmanagement.com.
Prior to investing in a 529 Plan, investors should consider whether the investor's or designated beneficiary's home state offers any state tax or other state benefits such as financial aid, scholarship funds, and protection from creditors that are only available for investments in such state's qualified tuition program. Withdrawals used for qualified expenses are federally tax free. Tax treatment at the state level may vary. Please consult with your tax advisor before investing.