Savvy Ways to Invest for College at Catch a Gideon

November 21st, 2006 by digerati

This is Chapter 14 in the Bogleheads series here at Catch a Gideon. We are going through each chapter in the book and letting you know what we learned from reading it. You should buy the Bogleheads Guide to Investing. It has more examples and more depth than I’m giving here, and is overall an excellent investment book.

Economists report that a college education adds many thousands of dollars to a man’s lifetime income–which he then spends sending his son to college. – Bill Vaughan

Go to more school, make more money. The best schools don’t necessarily give you more, but college almost guarantees making more than someone who has not gone. The Bureau of Labor Statistics shows that a college graduate will earn almost $1,000,000 over their lifetime.

How to Save for College

As with all investing options, the earlier you start saving the better. The laws for educational investing are constantly changing, but here are the basics of the various types of accounts you can use:

Personal savings
Custodial savings (UGMA and UTMA)
US Savings Bonds
Educational Savings Accounts (Education IRAs)
529 Qualified Tuition Plans

Personal Savings (in parents name)

Funded with after tax dollars
remain the property of the parents and under complete control
no income limits
no tax free growth option

holdings can qualify for long term capital gains when held long enough

money does not have to designated for any particular child as it does with other plans

Custodial Accounts

Uniform Transfer to Minors Act (UTMA) and Uniform Gifts to Minors Act (UGMA).

tax benefits when amounts are small enough that the minor is not taxed
earnings taxed at the child’s rate rather than the parents.
child gains full control at their 18th or 21st birthday (determined by state)

can use the money as they want (plasma TVs anyone?)

considered assets of the child. The government expects children to use up to 35 percent of their accounts for college funding. This may reduce the amount of financial aid available.

Government expects only 5.6 percent of parents assets to be used for college each year.

US Savings Bonds

It is very important how the bonds are titled. They should be titled in one or both of the parents names, NOT THE CHILD’s. The child can be listed as the benificiary. Many grandparents make mistakes here meaning the bonds cannot be used as a tax-free educational benefit.

you must be 24 years or older when you purchase the bonds
if married must file jointly
must use the entire proceeds to pay for qualified educational expenses
see IRS publication 970 for more information

Coverdell Education Savings Account (ESA)

Formerly known as an education IRA.
Current limit of $2,000 annually
Growth in account is tax free
After tax money is used to fund the account
anyone may contribute to the account (grandparents, etc) but the total amount for a single beneficiary cannot exceed $2000 per year.
funds must be used by the time the beneficiary is 30 but can be transferred to another family member who is under 30.

529 Qualified Tuition Plans (QTP)

Offered by every state
Limited investment choices, usually become more conservative as the child reaches college age
May be required to be a resident at the time of enrollment (most do not requires this)
Many states offer tax breaks to residents who incest in their plans
Can invest in a state plan in which you do not live
Allow substantial contributions

individual up to $55,000; couple up to $110,000 without exceeding the gift tax limit
can be a great way to reduce the size of a taxable estate

Can invest in both a 529 and a Coverdell FSA

There is also 529 type with a pre-pay option. These are offered by a state or a specific educational institution. You can prepay some or all of the tuition at today’s prices for a future education. The amount you pay is determined by the age of the child and can be paid in a lump sum or in installments.

That’s it for Chapter 14. Go ahead and buy The Bogleheads Guide to Investing.

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