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How to Save for Your Child’s College Education

a college graduation cap resting on money
Brian A. Jackson/Shutterstock

The headlines paint a scary picture for parents hoping to help fund their child’s college education. Between celebrities facing criminal charges for manipulating the admissions system to unprecedented student loan totals, paying for higher education may seem out of reach.

The average college student pays about $39,011 per year. That’s just over $156,000 for a four-year college education. Private colleges and in-state tuition can offer more affordable options, and grants or scholarships can also take a bit of the pressure off. However, if you want to help your child or another family member pay for college, you’ll want to start saving as soon as possible. And you’ll want to save wisely.

Before we talk about the nitty-gritty, it’s important to remember one thing:

Take care of yourself first. Make sure you set aside money for retirement and pay off credit cards and personal loans before you start funding your child’s college education. Don’t put yourself in financial danger to fund future education costs. There are other options available to college students if they don’t have money saved.

Determine How Much You Need

How much of your child’s college fund will you cover? Some parents choose to cover just tuition or books, others pay for two years expenses, and some parents cover the entire cost. Decide early on how much you can or want to help them cover and how much they’ll need to pay for themselves. Having at least a rough budget can help you determine a reachable savings goal.

For purposes of simplifying the math, we’ll assume the following per year based on pretty average out-of-state four-year college costs:

Tuition: $20,000
Housing: $8,000
Books/Fees: $2,000

Total per year: $30,000
Total for four years: $120,000

You can get a more accurate number if you know where your child wants to attend college. Most universities and colleges publish their tuition (though they may list it as cost per credit hour) on their website. You can also contact individual admission offices for more information on housing costs and fees.

How Long Will You Save?

The earlier you begin setting money aside, the easier it will be to save enough. Here are a few different scenarios using the data above, and assuming you’ll pay the full amount. The breakdown below also assumes that you are just saving money in a basic savings account versus a 529 plan (more on those specialized plans in a moment).

18 years: $6,670 per year/$556 per month

10 years: $12,000 per year/ $1,000 per month

Ideally, you’ll start saving as early as possible to reduce the need for student loans or other loan-based financing options. How you save can be just as important as when you start saving. If you opt to save in an investment plan, you could increase the amount your child has for college without increasing your savings.

How Will You Save?

Saving for the costs of education with 529 plan artwork with piggy bank standing alongside stacked textbooks

Piggy banks and savings accounts are traditional options, but as you can see from the math above, it can be tough to save enough to pay for a child’s college tuition if you live on a lower income or have more than one child.

Use a 529 Plan

As an alternative, you could put the money into a college savings plan, called a 529. A 529 Plan is an education fund that offers tax benefits and is designed to make it easier to save for education expenses. Each state sponsors at least one 529 plan and interest earned on those accounts will vary by state. Typically, you’ll earn a higher interest rate on a 529 over a savings account.

There are two types of 529 plans.

  • Prepaid Tuition Plan: With this option, you can purchase credits at participating colleges. Typically, these credits only work at public and in-state colleges and universities. The benefit here is that you’re buying credits at the current price per credit versus future, likely higher, prices. This type of college savings plan is only for colleges and universities and cannot be used to pay for room and board or elementary/secondary school expenses.
  • Education Savings Plan: The education savings plan is an investment account. The money and earnings in the account can be used for tuition, fees, and room and board. Additionally, the education savings plan allows for an annual maximum of $10,000 per year for public, private or religious elementary and secondary education expenses. You can distribute your money in this account to mutual funds and ETFs (electronically traded funds) to diversify your investment and potentially increase returns. If you have 10+ years to save, this can be an excellent option for raising your savings without increasing your expenses.

Money invested in a 529 is not tax-deductible, but you earn money tax-free. When you, or your student, withdraw the money, you don’t have to pay taxes on those earnings if you or they use it for educational expenses. If you do take the money out for a non-qualified expense (anything other than education), you’ll incur a 10% penalty tax, and you’ll have to pay income tax on the (growth) amount you withdrew.

Important things to know: The 529 is not a use it or lose it program. If your child decides not to go to college, you can put the account in another family member’s name, or you can withdraw the money and pay the income tax and penalty. Further, if your child gets a scholarship, you can withdraw up to the amount of the scholarship without tax or penalty.

Set Up a Custodial Account

Custodial accounts are gift accounts to a child. The funds can be used for any purpose, so long as it benefits the child. Your child can take any distributions for college expenses without penalty. There are a few catches. Any money deposited into this type of account becomes an irrevocable gift to the child, so you cannot change your mind and take the money back.  Further, once your child turns 18 or 21 (depending on the account and your state), the money in the account belongs to them, and they can do what they want with the account. If you do take the money out and your child decides to sue, you would lose.

There are two major types of custodial accounts the UGMA (Uniform Gift to Minors Act) and the UTMA (Uniform Transfer to Minors Act). The primary difference between UGMA and UTMA is that the UTMA allows for a longer maturing period (up to 25 years). The UGMA matures at 18 years.

There are some tax benefits to a custodial account, including a lower tax rate for the first $1,050 interest earned. You can gift up to $15,000 ($30,000 per couple) annually, tax-free.

Stash It in a Money Market Fund

A money market mutual fund account offers higher interest rates than a traditional savings/checking account and provides the most flexibility of the options on here. Note that a money market fund and a money market account are not the same thing. A money market account is similar to a checking account, but with a limited number of transactions and higher interest rates. A money market fund is an investment account.

A money market fund is a mutual fund that invests in things like cash, cash securities, high credit rating debt-based securities, and short-term securities.

The Bottom Line

Saving for college takes time. It can be expensive and feel overwhelming. Starting early, having a plan, and maximizing your savings by investing some or all of the money can help relieve at least some of the stress of preparing your child for college. Additionally, plan to help your child apply for as many grants and scholarships as possible to help reduce the cost of higher education.

Angela Brown Angela Brown
Angela has 14 years of writing and editing experience, including as a reporter and copy editor for two newspapers. Angela has a Bachelor's in communication with minors in creative and technical writing from BYU-Idaho. She works closely with real-estate and financial industry clients. Read Full Bio »
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