Socking It Away for Your Kids' Future
Our personal finance expert offers an overview of your options for paying for your kid's college years.
With all the financial burdens parents face today, the goal of saving to ensure that you have enough money to pay for your children's college tuition, room, board, books, transportation and other related expenses can be daunting. But the payoff--the likelihood that a good college education will expand your children's career opportunities and higher potential lifetime incomes--is worth planning for.
It's easy for parents to feel overwhelmed when, on average, college bills have been rising faster than after-tax personal income and the college inflation rate has been outpacing the rate of return on investments. Plus, the complexity of different federal and state income tax rules, different college financial aid programs and even different savings vehicles is enough to throw even the most optimistic person for a loop. Add to that the uncertainty of not knowing if or when these rules and plans will change, and you can see why many parents end up giving up.
As with all types of investing, the golden rule is that the earlier you start, the better off you'll be in the long run. So parents of newborns have the benefit of compounding their investment returns over the course of at least 18 years, while parents of high school-aged children may be forced to pay for college out of cash flow or home equity.
The flip side to this is, the more time you have before your child starts college, the more uncertainty you have. For instance, parents of the newborn don't know if their child will start college exactly at age 18 or even which college their child will attend--a pricy Ivy League university, a state school or even a community college. Parents of high school students, on the other hand, generally have a clue about where their kids will be going after they graduate.
In the face of all these unknown variables, the best that you and your financial planners can do is start with what's known--such as the year in which your child is expected to start college--and quantify the unknowns as to whether they're likely or unlikely. The start year provides not only the time frame for accumulating assets to meet college expenses, but also allows you to factor in the probability and extent of other liabilities and goal funding, including your retirement.
When planning for college funding, you need to be aware that you'll be expected to pay a certain amount each year depending on your ability. This amount is called the "expected family contribution" or EFC. The EFC calculation takes into account your income and assets, your child's assets, the cost of the institution your child will be attending, and even whether you have other children in college.
What's not covered by the expected family contribution is generally covered by financial aid. Currently, more than one-half of all undergraduate students get financial aid in the following forms:
- Federal programs, which provide two-thirds of all student financial aid through two sources: grants, such as Pell grants, that are based on need, cost of attendance, and enrollment status, and direct or guaranteed loans, such as Stafford loans, on which interest may be deferred until graduation and may be deductible from taxable income up to $2,500 annually. For more information on federal programs, the Free Application Federal Student Aid (FAFSA) website is a great place to get started.
- Loans and grants from universities and colleges. While most of their aid is in the form of loans, grants account for a growing share of financial aid funding. Some base their aid on merit as well as need, which may be helpful to upper-income families.
- Scholarships from a large variety of organizations that range from the American Legion to the YMCA. A great website for scholarship information is www.fastweb.com.
Not knowing what loan and grant possibilities are likely to be available when it's time for your children to start college, it's essential for you to start early accumulating the family share. Along with conventional taxable and tax-exempt investments, there are special tax-sheltered vehicles for college funding, including 529 Plans and Coverdell Education Savings Accounts (ESAs). To learn more about all your options, visit www.savingforcollege.com.
Finally, remember to talk to your financial planner and/or your tax advisor for advice on which vehicles make the most sense for you and how to own and custody these assets.
Debra Neiman, CFP, is and principal of Neiman & Associates Financial Services, a financial planning firm and registered investment advisor in Watertown, Massachusetts. She's also the co-author of the recently released book, Money Without Matrimony: The Unmarried Couple's Guide to Financial Security.