Black Friday has come and gone, along with the overwhelming supply of “must-have” gifts for Christmas this year. If you didn’t get the latest drone, tech gadget or gaming console, there is still time to put something truly meaningful under the tree.
Contributing to an education is the gift that keeps on giving. It will not be discarded after three days of use and it gets better the more you use it. Furthermore, an education cannot be taken away from you in a lawsuit or divorce.
Unfortunately, this “gift” is certainly not free.
The National Center for Education Statistics states the average cost of a four year university has more than doubled on an inflation adjusted basis since the 1980s. According to data from the College Board Trends in Pricing, the average four year public university currently runs about $23,000 per year, while a private school will cost around $46,000 per year.
Given the high cost of college, it is no surprise that our nation has about $1.2 trillion of student loan debt and the amount of total college debt outstanding increased by 20% from 2011 to 2013.
Most families cannot just “foot the bill” for higher education. It helps to have support and participation from friends and family. As such, when you distribute the kid’s “wish list” this year, encourage those in your life to contribute to your children’s education instead of giving another toy that will be quickly discarded or broken.
As you collect funds for the kid’s college, educate them on what you are doing and why. This will develop buy-in that getting an education is not only a possibility, but an expectation. The earlier you have these conversations the sooner you develop the mindset of saving for the future and delayed gratification.
In terms of accounts, we usually start with a Coverdell Education Savings Account (ESA). This account limits contributions to $2,000 a year, but the earnings are tax exempt for qualified education expenses. You can set one of these up at any brokerage firm and the investment options are quite broad. Fully funding this account can produce $75,000 in value after 18 years.
After fully exhausting an ESA, look to the widely marketed 529 plan. Despite their popularity, we recommend a bit of caution.
The 529 plan allows for much larger contributions, which is great if a wealthy family member has $140,000 burning a hole in their pocket. The 529 earnings can be tax-exempt if used for qualifying expenses. However, there are more limitations on what is a qualifying expense when compared to an ESA.
Furthermore, while an ESA has thousands of investment choices available, the 529 is state sponsored. As such, each state has their pre-packaged bundle of investment choices. Some are good, while others are expensive and mediocre. Even if you are a resident of Texas, you can still invest in the 529 plan sponsored by Utah. As such, it pays to shop around.
If you have maximized contributions to an ESA and considered a 529, many parents will evaluate a Uniform Transfer to Minors Act custodial account in the child’s name with the parent as custodian. Again, a word of caution is encouraged. When funding a custodial account there are no tax deductions or exemptions, but you do spread some of the tax impact to your child, who will typically benefit from lower tax rates. Investment choices are unlimited and the funds can be spent on anything.
However, recognize that once the child turns the age of majority (no later than 21), whatever funds are in that account will be their property to use however they wish. As such, from a control perspective it might be best to keep those funds in mom and dad’s name and distribute on an “as needed” basis.
Higher education, whether traditional college or trade school, sets a person on a path to financial independence. Although saving for this endeavor may not have the initial “wow” factor of a new drone, the value of an education will be far greater in the long run and something that everyone can contribute to.
Dave Sather is a Victoria certified financial planner and owner of Sather Financial Group. His column, Money Matters, publishes every other week.