As a parent of a 3-year-old, I’m just trying to get through my daughter’s current tantrum phase–figuring out the best way to save for college feels all but impossible. Even though I started saving before she was a year old, it’s tough to shake the anxiety over whether I’m saving enough.
So I spoke to the pros to learn how much to save for college and how to get there without stressing out my entire family in the process.
What I found is that despite the scary headlines, preparing for my child’s educational future is totally doable. Really.
How Much to Save for College?
Let’s be blunt: Not everyone can realistically cover 100 percent of costs, even if they start saving before their children are even born. Some estimates project that four years of public college could top $200,000 in 14 to 18 years in the future, and private colleges could cost well over $300,000.
Figuring out how much is right for your family requires a little nuance.
What you can do today: Take a deep breath. You’ll be OK.
Don’t Focus on 100 Percent
Rather than “deciding” you’ll fork over $300,000 without a plan for how you’ll get there, consider getting specific. Maybe you’ll pay for public school but talk money with your child and explain that you expect her to cover the difference if she wants to go private. Maybe it’s more realistic to pay for half the costs and expect your child to cover the other half in loans.
Perhaps most importantly, don’t get spooked by prices, because you may not have to pay the whole thing. “The sticker prices you’re seeing are not necessarily what you’re going to be paying,” says Joe Orsolini, president of College Aid Planners. “My goal is to take [families] from a $40,000 to $70,000 sticker price and get it to the low 20s.”
About 85 percent of first-time, full-time college students at 4-year schools got financial aid in the 2014-2015 academic year, and average undergrad financial aid came out to $14,400 per full-time student in the 2016-2017 school year.
What you can do today: Try out the an online FAFSA calculator, which can help you wrap your head around how much aid you are likely to receive (and how much you’re likely to be on the hook for).
Find Your Own ‘Best’ Way to Save for College
There is no one best way to save for college, but Orsolini recommends squirreling away at least $25,000 to $40,000, to make a four-year college financially viable. This assumes that you’ll qualify for financial aid, and that you’ll contribute toward tuition with savings plus whatever extra you can afford from your income–and that you’ll rely on student loans to fill in any gaps.
You might also consider the “2K Rule of Thumb”: Multiply your child’s current age by $2,000 for a ballpark of how much you should save. If you’re starting later, this can help you scale your contributions to make up for lost time. Some experts suggest aiming to cover about a third of college costs (assuming the rest will be split between scholarships, current income and loans).
What you can do today: Easy math. Multiply your child’s age by $2,000 for an estimate of what you should probably have saved so far. For a shortcut, see the handy chart we made, below.
How Much to Have Saved for College at Each Age (Based on the ‘2K Rule of Thumb’)
If you’re able to contribute more than this, doing so could help protect against rising tuition and the possibility that you don’t get as much financial aid as you hoped. On the other hand, if money’s tight, don’t get discouraged. Start saving what you can and consider increasing the contribution when you get raises (and possibly asking family to chip in at holidays).
Why It’s Important to Start Early
Starting as early as possible gives your money the most time to grow. If you saved $150 per month starting when your child was born, you could have $32,400 after 18 years, without factoring in any earnings. If we were to assume a 5 percent rate of return, that’d climb to about $52,000.
Of course, investing doesn’t guarantee a return, and your rate of return depends on your investments and how the market performs.
What you can do today: Pause and really let that sink in. Starting early is likely to be the easiest way for you to hit your goals.
What Is a 529 Plan? And Other Considerations
Once you start looking into education savings accounts, you’ll probably hear one number over and over: 529. Named for the section of tax code authorizing them, 529 plans are tax-advantaged savings plans designed for education expenses.
There are two types, a 529 savings plan and a 529 prepaid tuition plan. All 50 states and the District of Columbia offer at least one of those two types (Wyoming does not offer its own plan, but residents can join an out-of-state plan), and depending on where you live, you may be able to deduct both kinds of 529 contributions from your state income taxes.
Deductible 529 contribution limits vary by state. In 2018, you can contribute $15,000 per child before you face additional taxes for giving large gifts.
529 education savings account
As with other investment accounts, the idea is to accrue interest and investment growth over time. As long as you withdraw funds for a qualified expense (like tuition, fees, room and board, and potentially textbooks), the money in your account grows tax-free, and you won’t be taxed when you withdraw it.
Generally, that means you’d end up with more money than if you’d earned the same rate of return in a regular mutual fund, which is subject to income and capital gains taxes. (If you withdraw money for a reason other than education, your earnings will be taxed and hit with a 10 percent penalty.)
529 prepaid tuition plan
This kind of plan lets you purchase credits toward tuition and fees at today’s rates for a select list of colleges (often, but not always, public universities in your state). That means you don’t need to worry about rising tuition costs, but prepaid plans restrict where your child can use the funds and what the money will cover. Room and board, for example, isn’t covered.
If your child wants to go to a college that isn’t covered, you’ll get a refund on your contributions . . . sort of. Some states refund the contribution along with a small amount of interest (generally less than you’d earn with a 529 savings plan). Other states pay refunds based on average tuition at state public institutions. Because community colleges tend to keep that average low, you may not get your full contribution back.
Another downside is that not all state governments guarantee the money you contribute. Florida, Mississippi, Massachusetts and Washington guarantee contributions with the full faith and credit of the state, but some other states may only promise to reach out to legislators if funds run short, and legislators are not obligated to act.
If the plan’s financial sponsor can’t keep up with demand or the state’s investments underperform, the state may not have the funds to cover each student, making this a riskier choice than many parents imagine. To be clear, 529 college savings plans aren’t guaranteed, either. But they’re not based on locking in a lower tuition rate, so they don’t seem to face the same underfunding struggles that prepaid plans do.
Although Roth IRAs are officially intended for retirement savings, Orsolini notes that they often work well for parents trying to save for retirement and college at the same time. That’s because early withdrawals from a Roth IRA aren’t subject to the usual 10 percent penalty if you use the money for higher-education expenses. You can also avoid taxes if you withdraw only contributions, not earnings.
Coverdell education savings account
Coverdell ESA plans are another, less popular option. As with 529 plans, contributions grow tax-free. Coverdell plans have the advantage of including a broader range of K-12 expenses, like uniforms or room and board at a private school, whereas 529 college savings plans only cover K-12 tuition.
That said, Coverdell plans only allow a maximum $2,000 annual contribution per child and you can’t use this sort of plan once you hit certain income limits (your contributions will start being limited once you make $95,000 as an individual or $190,000 as a couple, as of 2018). As a result, they aren’t the best answer for many families.
What you can do today: Simply decide what type of account is right for you. That’s it.
Where to Find a 529 Plan
You’re generally free to open a 529 in any state, not just your home state, although there may be tax benefits for going with your state’s specific 529.
SavingForCollege.com offers a comprehensive listing of 529s across the country, along with reviews.
What you can do today: Create a calendar alert to sit down and spend a couple hours researching various 529 or other plans, and open an account. Trying to do everything all at once can be overwhelming, so you might choose a time when you know you’ll be unhurried and can really do it right.
Breaking Down the Process: How a 529 Affects Financial Aid
You fill out a FAFSA form, providing information about your financial situation.
Administrators calculate your expected family contribution, which is how much you’ll have to pay out of pocket.
Depending on your age, you’ll have an asset protection allowance, which is a certain amount of savings that don’t get factored into the formula (because they don’t want to totally bankrupt your retirement). For the 2017-2018 school year, the amount for a two-parent home was $16,800 if you’re 40 when your child goes to college, up to $31,900 if you’re 65.
Money in retirement accounts also doesn’t count, which is good news for you.
The rest of your savings are assessed at 5.64 percent, including money in any 529 plans. So, if you’ve saved $10,000 above and beyond your asset protection allowance, your financial aid package would only get dinged by $564.
Anyone telling you that a 529 education savings account will hurt you is essentially saying, Don’t bother saving $100, because you’ll only get to use $95.
One important caveat: Encourage grandparents to contribute to a 529 plan you open, rather than creating their own. Funds from separate 529s will look like “student income” and take a much bigger bite out of your financial aid.
What you can do today: Decide on a basic savings goal. Even if it isn’t sky-high, think about what you can afford and make a commitment to contribute that much each month. Bonus points? Set it up through autopay so you know you’ll do it, no matter what.
The Best Way to Save for College . . . If You’re Struggling Financially
If you have major debts that go to collection or if you have to file for bankruptcy, your child’s 529 education savings account should be largely protected, with a few exceptions. Contributions made in the last year aren’t protected from bankruptcy proceedings, and there’s a cap of about $5,000 on exempt contributions from the year before. Beyond that, though, creditors generally cannot touch your child’s 529 funds.
Whether you’re putting away $50, $150 or $1,500, the most important thing is to figure out a plan that fits for your family.
My own lesson from this? Not to get scared off by online calculators and to simply concentrate on putting aside what I can. Time is on my side, and every baby step brings me closer to a bright future for my child.
This material is designed to provide general information on the subjects covered. It is not, however, intended to provide any specific financial advice or to serve as the basis for any decisions.
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