Back to School - College Savings Dissected

by Jennifer Johnson

It's August and we all know what that means, it's back to school! (I know some of you were thinking...FOOTBALL!! but we're talking school here.) With that fresh on everyone's minds I wanted to focus on college savings.  If you're like me, this is the time of year that you are shocked at how old your kids are. 

That means your child is one year closer to college whether they are starting preschool or 9th grade.  Preparing for college is one of the top two goals that people come in concerned with -- right after retirement which is usually #1. Unlike retirement for which you may save 30 plus years (hopefully), college really sneaks up on you because at most you will save 18 years even if you start as soon as your baby arrives.  This condensed savings period makes starting early very helpful but even if your child is starting 9th grade or even closer to college, you can still take some positive steps.

Before we get too deep, I want to remind you not to rob your retirement to pay for college for your kids.  There are multiple ways you can get your kid through school including work-study and loans which are not options for retirement .  At the same time, most parents share with me that they want to pay for most if not all of their children's college yet clearly they are struggling to do so.  As a result, most kids today have a lot of student loan debt.  Last month (July 2017) CNBC reported that student loan debt has grown by 250% over the last decade and the average borrower has $26,700 in debt. I've seen this impact the student as he or she begins adulthood when I speak with young people starting careers about savings goals.  Often they will delay buying a home, getting married, having children or saving for their own retirements because they are making student loan payments which they may carry into their 30s   

Luckily, you can avoid this fate with proper planning.  Before we talk about different savings options, we should talk about costs.  If you look at the cost of attendance at most state supported colleges in North Carolina, they will show approximately $22,000-23,000 a year on their websites.  I find parents spend around $16,000/year if they are frugal (meaning no luxury apartments for your student) and that estimate includes a lot of things that you are probably already paying for like health insurance for your child and some transportation to and from school.  So some good news in that the cost of a public school at least may not be as bad as you think.  But, one of the big challenges with college costs is how quickly those costs have been increasing.  I use an inflation factor of 5% annually based on a long term average increases in college costs overall.  This means each year the cost of attending college goes up by 5% and in truth some years including recently those costs have gone up by more.

This rate of increase means accounts like savings accounts with very low interest rates are not the best option to prepare for this goal. You just simply will not keep up and will be required to save a lot more on a monthly or annual basis.  I would argue that the best account type specifically for college is a 529 plan.  A 529 plan is a special account intended to save for college costs that has some tax benefits. Each state sponsors a plan and you can choose any state's plan even if you don't live there or plan to attend school in that state.  Sometimes residents receive a state tax benefit for contributions to that state's plan so you should check with your tax advisor about your own situation.  Most of the time you will not get much, if any, tax benefit for contributions to the 529 account; however, there is benefit in that as long as the money is used for qualified higher education expenses all of the withdrawal including the growth comes out tax free.  This can be tremendously powerful particularly if you start young and have a number of years in which that account can grow.  Most plans offer investment choices ranging from stocks to money markets which should require you to save much less than simply using a savings account.

Important note:  If you do not use the funds for qualified education expenses, the 529 account loses all of those tax benefits and you are penalized 10% on the earnings!  So, if you would want more flexibility in how the money is used, a 529 is not for you.  You could still invest for college by simply opening a taxable investment account in the parent or parents names or you could open a custodial account (UGMA/UTMA) which is legally the child's money. Just remember when that child comes of age, he or she can use money in a custodial (UGMA/UTMA) for anything (and I mean anything) .

Once you have decided what type of account to use, you need to decide what to contribute.  Most people are saving for retirement simultaneously and you don't want to over fund a 529 so you want to get close to what you think you'll need. If we use the cost I mentioned earlier ($16,000/year increasing at 5%/year) and we plan on earning 7% in your 529 for example, the numbers work out to right at $312/month for a new baby who would go to college 18 years later.  If you wait until the child is 5 to begin, the savings requirement jumps to $388/month.  Wait until 10 and that becomes $525/month.  If you have multiple children, you multiple that of course by the number of children so the numbers can get pretty large.  This is of course for a public level cost.  Private colleges get expensive fast!

Some of you are reading this and feeling defeated because you have a 10 year and maybe a 5 year old and haven't started.  Don't feel that way!  Remember what I said earlier about multiple ways to pay for college.  Even if you can't save for 100% of the cost, do what you can and start now.  Right now.  

If you don't have someone to help guide you, I'd love to be that person for you.  Feel free to reach out to me directly at either  jjohnson@bluerockwm.com  or (336) 723-1220.  If you'd like to hear more on this subject, listen to Jennifer talk with Adam Witten of the Triad Podcast Network about college savings here https://soundcloud.com/user-589432337/back-to-school-with-blue-rock-weal.... Want to know how to find that $300/month to save? Listen to this podcast about budgeting tools & apps that can help.https://soundcloud.com/user-589432337/tips-and-tools-to-help-you-budget-your-money">https://soundcloud.com/user-589432337/back-to-school-with-blue-rock-wealth-management.

Want to know how to find that $300/month to save?  Listen to this podcast about budgeting tools & apps that can help.https://soundcloud.com/user-589432337/tips-and-tools-to-help-you-budget-your-money