Options for Saving for College
Trying to figure out the best way to start saving for a kid’s college, or wanting to make sure you’re on the right track? You have several options when it comes to college saving.
Whether or not you already have a college fund started for your child, the most important key is to save early and often. Meaning, the sooner you can save – even a small amount of money is better than not saving any – the more you’ll be able to earn. Here are a few options when it comes to saving for college.
One of the most popular education savings accounts is the 529 plan. A 529 plan offers both federal and some state tax benefits as long as the funds are used for qualified education expenses. Earnings and withdrawals are tax-free when the money is used for college. In most cases, 529 plans have very little effect on financial aid eligibility and may end up helping you more than hurting.
Accounts owned by dependent students are treated as parent assets and nothing has to be reported to FASFA when the funds are withdrawn to pay for college. In the state of Missouri, you can easily open a 529 plan on the Missouri Most website.
By investing your contributions in mutual funds, you can choose from a variety of investment options, including stocks and bonds. The amount you earn depends on mutual fund performance and any capital gains. There is no limit to how much money you can invest – there are more than 10,000 mutual funds available, with many different investing options.
Earnings are subject to annual income taxes, and capital gains are taxed when you sell shares. Be sure to consider financial aid eligibility, as FAFSA considers money from mutual funds used to pay for college as income.
Custodial Account - UGMA OR UTMA
A custodial account, also known as a UGMA/UTMA account, allows an adult to open a brokerage account on behalf of a minor. The account is usually held by the adult, then transferred to the student when they turn 18, 21, or 25-years-old. Funds in the custodial account can be used for expenses which benefit the minor, and there is no limit to the amount of money you can invest.
Earnings are subject to the “kiddie tax” which taxes a child’s unearned income. In 2022, income more than $2,300 for certain children, through age 23, is taxed at the marginal rate for trusts and estates. In addition, custodial accounts are categorized as ‘student assets’ on the FAFSA and can reduce a student's financial aid by 20% of the account value.
A Roth IRA is an individual retirement account which allows you to contribute after-tax dollars and earn interest tax-free. You can avoid the 10% early withdrawal penalty on earnings if you’re using funds to pay for qualified education expenses. Otherwise, you can withdrawal funds without penalty at age 59. In 2022, the maximum contribution limit is $6,000, and $7,000 for those ages 50 and older. View the full retirement contribution limits and income restrictions for 2022.
U.S. Savings Bonds are issued by the Department of Treasury, and are typically seen as a lower risk investment. You may redeem Series EE and I Bonds for qualifying higher education expenses, federally tax-deferred and potentially state tax-free. The maximum amount you’re allowed to invest is $10,000, or $20,000 as a married couple, per year, owner, and type of bond. If funds in the bond are not used for tuition and fees, you may be subject to federal income tax.
Regardless of where you’re at in the journey to save for college, use this investing for college calculator to evaluate the different factors it takes to save for college. When exploring the options to help with college saving, talking to your financial advisor will bring peace of mind in knowing your saving strategy aligns with your short and long-term goals. Contact our advisors to easily evaluate your personal financial plan.
This material is for informational purposes only. Neither LPL Financial, nor its registered representatives, offer tax or legal advice. Always consult a qualified tax advisor for information as to how taxes may affect your particular situation. Please note that individual situations can vary and therefore this information should only be relied upon when coordinated with individual professional advice.