Funding Educational Expenses for Your Loved Ones
An essential component of a financial plan is putting together a budget based on your current situation. Most expenses are personal expenses. However, some may be paying for the educational expenses of a family member. Typically, this is a grandparent helping pay for grandchildren’s education, but you may be paying for a different family member as well. This is a high level look at the most common ways to fund those expenses.
529 Accounts
Many financial experts agree that 529 plans are one of the best ways to save for college. Most states have 529 plans. They’re tax-advantaged education savings accounts that are not subject to state or federal taxes. Individuals can contribute up to $15,000 per year, per account, without triggering the gift tax.
The money grows tax-free if the funds are used to pay for qualified education expenses. Eligible expenses have recently been expanded and now include all of the following:
College expenses, including tuition, books, fees, room and board, a computer and more
Trade school expenses, as long as they are on the Federal Student Aid list
Apprenticeship program expenses, for programs registered with the US Dept of Labor or State Apprenticeship Agency
Special needs equipment
K-12 tuition expenses up to $10,000 of 529 funds per year, per child
Student loan payments on behalf of the 529 beneficiary or beneficiary’s siblings up to $10,000 per individual.
Coverdell Accounts
A Coverdell education savings account (ESA) is also a tax-advantaged education savings account. Just like 529 plans, the earnings grow tax-free when the withdrawals are used for qualified education expenses. However, Coverdell accounts have a $2,000 annual contribution limit per child.
Many parents first discovered Coverdell ESAs while searching for ways to save for elementary and secondary private school tuition. Now that many state 529 plans, including NC 529, allow families to use the funds for K–12 tuition, some parents are transferring accounts to take advantage of the higher annual contributions.
Custodial Accounts
Another type of college savings account is the custodial account. The tax advantage of this type of account is that the earnings are taxed at the child’s tax rate, which is usually much lower than the parents’ rate. Individuals can contribute up to $15,000 per year, and couples can contribute up to $30,000, without triggering a gift tax.
Generally, these types of accounts transfer control to the child once they turn 18 or 21, depending on the rules in your state. That means the child can withdraw funds for anything they want, including non-education expenses.
Prepaid Tuition Plans
Prepaid tuition plans allow families with young children to lock in and pay tuition rates at today’s prices. The benefit is realized when the child attends college, presumably years from now, and their tuition is already covered. That can be a big cost saving with the rising price of tuition.
Not every state offers a prepaid tuition plan, and in most states, the money must be used at in-state schools to get the full benefits. And prepaid plans don’t cover the cost of room and board or other non-tuition related expenses.
Traditional Savings Accounts
Many families already have individual savings accounts at their local banks for each child. So, when grandma or grandpa sends a check for their birthday, some or all of the gift is deposited into that child’s account.
The benefits of traditional savings accounts are that it’s easy to make deposits, and if your child gets a part-time job in high school, they can easily continue adding to the savings. However, most bank savings accounts earn low interest rates, so the money will not grow as much as it can with other saving options.
Savings Bonds
Savings bonds are issued by the U.S. Department of the Treasury and are guaranteed by the federal government. Interest from bonds is usually tax-free if they’re redeemed to pay for higher education expenses.
They’re sold in different amounts and with various rates of return. Some bonds can be redeemed for double the amount of the original purchase price. However, it could take up to 20 years for some bonds to mature.
Stock Market
Investing in the stock market can be a beneficial way to save for college if you know what you’re doing. Trading stocks is considered a high-risk investment with the potential for high gains or big losses. It’s not for the faint-hearted and you’ll need to be ready to weather the storms of market swings.
A broker or financial advisor can help you manage your stock portfolio to maximize earnings. There are no tax advantages to saving for education with stocks. You will have to pay capital gains on the earnings. That amount varies, depending on your income bracket.
You’ve already taken an important first step in starting the research. We would love to have a discussion with you about which types of college savings accounts are right for your family. We look forward to hearing from you.
This material was prepared by the FPA, and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note - investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.
Citations:
1 - FPA.com
2 - CFNC.org
