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College Finance

Some common vehicles for helping cover higher education costs:

Coverdell Accounts

Tax-deferred investment growth for education expenses

  • Pros – Can be used for K-12 costs too, wide investment choices
  • Cons – non-deductible contributions limited to $2,000 a year, restricted to income limits ($110,000 for a single tax filer; $220,000 for a married couple in 2015)

529 Savings Plans

Tax-free distributions for qualified college expenses

Contributions may be deductible or offer tax credits, depending on state rules

  • Pros – Possible way to build up big savings because of large contribution limits, federal financial aid formula treats it as parents’ asset, can be transferred to other family members if not used by intended person
  • Cons – Can only be used for higher education purposes, sometimes high fees, could face penalties and taxes if withdrawn for other purposes

529 Prepaid Plans

Upfront payments can cover specified costs, such as tuition, locking in at current price what’s expected to cost more in the future

  • Pros – Places current money on bet that tuition costs will keep rising, may be transferable to other schools, treated as parents’ asset
  • Cons – Fiscally challenged states might alter plans or close them to newcomers

Custodial Accounts (UGMA, UTMA)

Accounts through which investments earn income tax-free up to a point, then are taxed at a lower child’s rate before eventually rising to parent’s rate

  • Pros – Flexible spending allowances not restricted to educational purposes, as long as child benefits
  • Cons – Children eventually get control (in Wisconsin, at 18 for UGMAs and 21 for UTMAs). Treated as students’ assets for financial aid consideration

Roth IRAs

Retirement accounts generally are not considered in financial aid determination.

Contributions aren’t deductible and are subject to income limits, but grow tax-deferred and allow tax-free withdrawals for qualified expenses, including some education costs.

If you don’t need the money for college, it’s available for retirement.

  • Pros – Flexibility and more investment options
  • Cons – If relied on as a retirement account, could be set back by college spending, withdrawals are counted as income for financial aid purposes

Brokerage Accounts

Parents can include potential college costs among the reasons to accumulate money in a brokerage account

  • Pros – Flexibility in investments and spending
  • Cons – No tax advantages for earnings or withdrawals, counted as parents’ asset for financial aid

Savings Bonds

Income from Series I and EE U.S. Savings Bonds can be tax-free if used for qualified college costs        

  • Pros – Relatively low-risk investment
  • Cons – currently paying low rates, difficult to keep up with inflation, financial aid plans include income from bonds as income, while asset itself is considered in the parents’ calculation

Loans

A variety of loans are options, including programs tailored to students or parents. Student loans come from the federal government and through private lenders. Subsidized federal loans are awarded on financial need and cover interest payments while the student is in school.

  • Pros – leaves savings alone to continue growing until student graduates and enters the work force
  • Cons – borrowing costs may be higher than interest earned in savings accounts, debt can become a burden to student or parents

Employment

Helping to arrange a job for the student shares more of the responsibility of college finance

  • Pros – Besides earning income, employment can contribute to work skills, financial literacy and potential employability of student
  • Cons – Can distract from studies, possibly prolonging time in (and cost of) college

Other resources online:

Smart Saving for College, from the Financial Industry Regulatory Authority

Trends in College Pricing, from the College Board

The Project on Student Debt, an initiative of the Institute for College Access & Success

Paying for College, Your Money Guides, The New York Times

(initally posted Nov. 23, 2011; updated May 7, 2015)

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