College or Bust? Simple Advice for a Scary Topic

Do you want the good news or bad news first?  The cost of going to college is still increasing, but is rising at a much slower pace than most of us can recall.  Since 1990, college tuition has grown roughly 6% per year.  However, according to the Labor Department, tuition rose approximately 2% in the most recent year, in line with overall consumer price inflation.  While college has become unaffordable for many – the typical in-state university budget required an outlay of $24,610 for the 2016-2017 academic year (College Board), and private colleges can cost twice as much – the fact that enrollment peaked in 2010 meant the laws of supply and demand would finally catch up with pricing.

Still, how do you swing such a big figure in your budget?  For most investors, funding a 529 college savings plan can be part of the solution.  A 529 plan is a tax-advantaged investment vehicle designed to encourage saving for the future higher education expenses of a designated beneficiary.  Whereas withdrawals from a 529 plan are tax free if used for qualified educational purposes, contributions to a 529 plan are made on an after-tax basis and qualify for the annual federal gift tax exclusion.  This means married couples can contribute $28,000 per beneficiary each year and single individuals can set aside $14,000 per year. 

However, you probably don’t need to fund a plan so aggressively.  Investing $3,000 per year ($250/month) for a child just born through age 18, a net savings of $54,000 would turn into more than $96,000 at a 6.0% rate of return.  Even on an inflation adjusted basis, this would be enough to cover roughly 2.5 years of college.  And the balance could be covered by using the parent’s current cash flow or other taxable savings, as well as the student’s grants and scholarships, loans, or summer internships, assuming they finish college within four to five years.

As for those torn between prioritizing retirement savings and college savings, remember that it’s nearly impossible to get a loan for retirement but that college can be financed in many ways.   If you are like most people and have a fixed quantity that you plan to set aside each year for achieving various goals, be sure to put enough into your employer’s 401(k) plan to get a matching contribution (free money) but also consider the numerous benefits of funding a Roth IRA, spousal IRA or Health Savings Account, before establishing an aggressive 529 savings program that doesn’t neglect the options just mentioned.  A more modest 529 savings goal will go a long way towards helping your loved ones make it to campus.

Mike Giefer