Investing in education pays off by increasing earning potential and reducing the chances of being unemployed or underemployed. But don't be overwhelmed. With a little preparation, you can start your own college plan. Use the following suggestions to help pave the way to successful saving:
- When is the best time to start saving for higher education?
- How much should a family set aside?
- How can a family begin a regular savings plan?
- What is the value of saving over time?
- Should investments be saved in the parents or child's name?
- How can grandparents help?
Start now, regardless of your current situation. For those with time to plan, combining regular investing, financial aid and tax credits can go a long way toward paying tuition bills. Even for those with older children who may not have a savings plan in place, your savings will make a difference.
You don't have to save for the entire price of a college education. You need to project how much education will cost when your child is ready for college. For example, if tuition doubled every 10 years at a seven percent inflation rate, then a $10,000 annual tuition today would grow to $20,000 in 10 years; in 20 years, $40,000. Even though tuition will continue to increase, your income generally does as well.
Start by saving as much as you can in an easily accessible account like a savings account or a more aggressive investment such as growth mutual funds or stocks. Consider enrolling in the Minnesota College Savings Plan. Accounts can be opened with as little as $25. It's important that your investment strategy fits into your overall financial strategy. For example, your strategy should attempt to fund your child's education without draining your savings or retirement.
While it is never too late to benefit from investing, it's also never too early to get started. In fact, the earlier you begin to save for college, the less you have to save each month.
When the money an investment earns is reinvested, that money can start to earn money in addition to your initial investment. Each time this money is reinvested, your pool of money grows which, in turn, increases the money it can earn and so on. The effect of compounding is not very noticeable at first, but can have a large effect on your savings over time. So even if you can't set aside much now, consider putting away a little each pay period. This doesn't guarantee a profit or protect against losses, but you'll be forming a good habit and even small investments have the potential for dramatic growth over the longer term.
If you invest in your child's name, you give up control of the assets permanently. Your child can use the assets in any way once he or she reaches legal age (usually 18 or 21). And when you're unsure of the school and its future cost, it's hard to determine how much to put in the child's name. Still, many people do so to take advantage of tax savings. For children 19 and younger (or full-time college students under age 24), the first $950 of unearned income is tax-free. The next $950 is taxed at the child's tax rate (usually 10 or 15 percent). Anything over $1,900 is taxed at the parent's rate.
However, your child may receive less need-based financial aid and have to pay more of the cost out of pocket. You'll need to weigh this against potential tax savings. Under today's financial aid formula, a child's assets are assessed more heavily than the parent's assets. Your child is expected to contribute 20 percent of his or her assets, while you are expected to contribute 5.65 percent. Parents also receive an asset protection allowance while children do not.
Grandparents, like parents, can have investments in their grandchild's name and receive tax advantages for doing so. However, the same potential drawbacks apply. Grandparents will have no control over the assets once they are in the grandchild's name, and the grandchild may receive less need-based financial aid.