Headlines abound about the value of college. So, what about saving for college? Why bother saving if there is question about the value of college to start? And what about the argument that saving for college will kill my kid’s chance of getting financial aid?
First, that last argument is no argument at all. It is nothing more than a too-often repeated myth. The fact is that saving for college in a 529 Plan has very little effect on financial aid. And even less so today than just a few years ago when the rules were changed. Students are no longer required to report a sibling’s 529 account on their FAFSA® form. And grandparent 529 account distributions to students no longer counts as income for the student.
Second, the premise of declining value of college is debatable. What’s not debatable is that college graduates earn more than most non-college graduates. The value of college can vary greatly based on the student’s choice of college and major. Students who graduate in four years, use savings, and rely less on loans will derive a larger return on their investment in the college experience.
Third, saving for college is no longer limited to just saving for college if you use a 529 Plan. In the last several years, 529 Plans have been expanded to allow the savings to be used for more than just paying for college:
- Up to $10,000 per year can be used to pay tuition at private and parochial elementary and secondary schools.
- Up to $10,000 per beneficiary can be used to pay principal and interest on student loans.
- Savings can be used for apprenticeship programs. Check out this site to learn more.
- Up to $35,000 of leftover savings can be rolled into a Roth IRA.
And Congress is currently considering proposals to expand 529 Plan withdrawals for home schooling and certificate programs.
All of these improvements are on top of the underlying benefits of 529s that have not changed since Congress created 529 Plans thirty years ago:
- Tax-free growth. Once contributions are made to a plan, the earnings and gains on the investment are not taxed if the withdrawals are made for qualified college education expenses, paying secondary school tuition, repaying student loans, or participating in registered apprenticeships. Many states offer additional tax benefits (credits or deductions) as well.
- No income limitations. Anyone, regardless of income, can contribute to a 529 program, up to the maximum contribution limits or plan cap levels for each program, which can be several hundred thousand dollars.
- Easy to switch beneficiaries. An account owner (the one who opens and holds the account) may change the beneficiary of the account to others, including themselves. This is particularly helpful if a student beneficiary decides not to go to college or if there is money left in the account after the student graduates.
- Financial Aid friendly. Families concerned that their savings may affect their eligibility for need-based financial aid should consider 529s. On the FAFSA® form, 529 Plan savings are assessed at a maximum of 5.64%. For every $10,000 saved in a 529, financial aid eligibility is reduced by only $564.
Does it really pay to save for college?
Let’s look at an example of how a 529 Plan affects financial aid assuming a college cost of $35,000.
- A student with a 529 account worth $20,000 would see a $10,000 financial aid package reduced by $1,128 to $8,872. To pay the college bill, the student would use $20,000 in savings, $8,872 of aid, and be left with a gap of $6,128. That gap would presumably be filled by parent or student income during the year or additional parent or student loans. This may be manageable for the family.
- Comparatively, a student without a 529 account but with that same $10,000 financial aid package would be left with a gap of $25,000. Filling a gap 4X larger with family income and more loans may not be manageable for the family.
Where Can I Find a 529 Plan?
Go to the free Find My State’s 529 Plan on The National Association of State Treasurers’ College Savings Plans Network website. Or use the 529 Search and Compare tool that allows you to select and compare several plans from different states.
These free tools will help you identify a plan that may work best for you. You do not have to use the plan in the state in which you reside. When comparing 529 Plans, consider tax deductions, tax credits, or other benefits offered by your state, as well as each 529 Plan’s features, fees, and investment returns with the understanding that past performance is not a reliable indication of future performance.
3 Tips for Making 529 Plans Work for You
- Start making contributions NOW. Saving a Dollar Today is Better than Borrowing One Tomorrow®. It’s never too early or too late to save for college. If you start when your child is young, there is more time for the savings to compound over time. To see the power of compounding, use this free calculator to estimate The Cost of Delaying Savings. For high school aged students, saving even a little now will likely reduce the amount they may have to borrow.
- Set up automatic monthly contributions. Most 529 Plans can be opened with small initial deposits – some as low as $15. Setting up an affordable monthly contribution from your bank account will help you stay on track, and you may not even miss the money using this strategy.
- Crowd Fund the account. Encourage grandparents, other relatives, and friends to contribute to 529 Plans as birthday and holiday gifts. Most plans have easy-to-use gifting platforms.
Some Fine Print
- No double-dipping on student loan interest. 529 account holders who make withdrawals to pay student loan interest cannot also claim a student loan interest deduction on their taxes.
- The permitted $10,000 withdrawal from 529 Plans for student loans is a lifetime aggregate cap per beneficiary, but these savings can be used to pay off up to $10,000 of student loans for multiple beneficiaries.
- Now that 529 Plans can be used to pay off student loans, contributing to the plans while a student is still in college makes more sense – particularly if tax-advantaged earnings and gains on the 529 savings turn out to be greater than the interest rate on the loan.
The Last Word
Recent improvements make already-favorable 529 Savings Plans even better to save for all levels of education – elementary, secondary, post-secondary, and now, apprenticeships. And to also pay off student loans or roll unused savings into a Roth IRA.
The best advice is to start saving as early as possible, to evaluate the pros and cons of each saving option, and to plan ahead to make college more affordable for your family.