By Jennifer Green
Over the last 20 years, education costs in the United States have risen to the point where a college education is now the second largest expense a person will have in their lifetime, right behind buying a home. Before the 1990s, college was not always considered a necessity for a successful life however, with rising inflation rates dramatically increasing the cost of living, the number of students seeking a college education rose from 13.8 million in 1990 to nearly 20 million in 2020 as more and more people began to view a college diploma as the only way into the middle class.
While the future is often a mystery, what’s bound to remain a constant is the interest in higher education, making it even more important for parents, grandparents and guardians to have a plan in place to save for their next generation’s future.
Education-specific savings plans
When it comes to investing in, and saving for, your loved one’s future, there are two main investment strategies, each with their own pros and cons depending on the overall savings goals and accessibility of those funds.
Up first is the 529 Plan, also legally known as a “qualified tuition plan”. This is a tax-advantaged savings plan, meaning that the owner of the plan will receive a break on their taxes if they are actively contributing to it. Specifically, these plans are designed to pay for future education expenses and are generally sponsored by the state a person lives in, agencies within that state or educational institutions.
Within this category, there are prepaid plans and education savings plans. Prepaid plans let the owner of the account purchase credits at participating colleges and universities that will go towards future tuition costs for the beneficiary of the account. An education savings plan is slightly different in that, rather than having the funds apply to a specific school, this plan allows the account owner to open an investment account that can be used for the beneficiary’s qualified higher education expenses or tuition for other forms of education like private or religious schools.
For the 529 education savings plan, parents or grandparents can choose a monthly amount to contribute, up to $10,000 to 15,000 per year. If either type of 529 is used, the money allocated is tax-free, as long as it is spent on education expenses. However, if the beneficiary opts to not go to a higher education institution, the parent or guardian that owns the account can easily update who the funds will go to.
Open-ended savings plans
Along with 529 Plans, there are also standard investment accounts, Uniform Gifts to Minors Act (UGMA) and Uniform Transfers to Minors Act (UTMA). These accounts allow parents or guardians to save and transfer financial assets to a minor without having to establish a trust. Unlike the 529 plans, these accounts are in the name of the child but are controlled by the adult until the child reaches their state’s legal age of majority. They also do not give the account owner the same tax benefits as the 529 plans as these contributions are made with after-tax dollars. When it comes to how much can be contributed, the adult who opened the account can give up to $16,000, or $32,000 per married couple, annually without incurring a gift tax.
These accounts also allow for more flexible spending than 529 plans, which have strict rules as to what a child can use the money on (i.e., tuition, books, supplies, etc.). UGMA and UTMA funds can be used on anything, not just approved educational expenses, often making them a better choice for parents or guardians that don’t want to limit the child to a specific life path. Another pro to standard investment accounts is that when the child is still a minor, the funds can be accessed and used to pay for items that benefit them in their current stage of life rather than holding off until they reach adulthood.
All of this to be said, when it comes to deciding the right way to save for their child’s future, parents and guardians have these and other financial saving options at their disposal to set their loved one up for success, no matter the life path they choose to take.
Editor’s Note: Jennifer Green, is a vice president and managing director with Tompkins Financial Advisors, Central New York region.