New Ways to Save for College | Reader's Digest

New Ways to Save for College

Check out some of the smart ways you can start saving for your kids' college tuition.

By Lisa Goff from Reader's Digest | December 2009
New Ways to Save for CollegeJupiterimages Corporation With a growing number of informative websites it easier than ever to save and pay for college.

Plus: The Best Advice for Planning to Pay for College

Section 529 Plan Named for its address in the federal tax code, a 529 comes in two varieties: a savings account and a prepaid tuition account. Savings accounts, or investment accounts, are invested by professional managers in stocks and bonds, CDs, and money market accounts. A 529 savings account is a better choice than a prepaid plan, which can lose value if you move to another state. You can invest in any state’s plan (they all have at least one); 32 states, plus the District of Columbia, however, provide an additional taxdeduction if your child is educated in state.

Earnings in 529 plans are tax-free as long as the money is spent on higher education. It’s cheaper to enroll in a savings plan through the state than it is through a broker. Browse state plans at savingforcollege.com, or compare them side by side at collegesavings.org. Fees vary widely (0.3 to 3 percent or more). Low fees can make an out-of-state plan a much better deal, even if you lose the state tax deduction, which in many cases is minimal—$100 or less.

And as the recent market crash shows, 529 accounts can plummet in value when stock prices fall. Guard against losses by choosing an “age-based” plan that invests more conservatively—fewer stocks, more bonds—as your child gets closer to college age.

Mutual Funds These are pooled investments in stocks and bonds that are managed by a professional. Unlike 529s, they can be used for any purpose at any time, with no penalties for withdrawal of earnings. As your child grows up, you will want to shift into increasingly conservative funds. Compare the performance of various funds at bankrate.com or morningstar.com.

Other Investments Certificates of deposit, money market accounts, and regular old savings accounts are still favored by some families. They are indeed safer investments, although they usually earn 3 to 6 percent less than plans that invest in the stock market. But in some states, you can choose these investments through a 529 plan while also pocketing the tax breaks.

In Whose Name? You usually pay lower taxes on savings and investment accounts held in your child’s name. But if there is even a ghost of a chance that you will be eligible for financial aid, those are false savings. Colleges expect you to contribute at most 5.64 percent of your assets toward tuition every year, but the tab for assets in your child’s name is much higher—a flat 20 percent per year. A $20,000 college fund in your child’s name, in other words, would be docked about $4,000 up front, but at most $1,100 if it’s in your name. The same rule applies to savings bonds.

Save the Big Bucks Save $23,000 Live at home the first two years while attending community college. The average tuition is $2,500, and many states guarantee transfer to a four-year university.

Save $28,000 Finish in three years. Using AP and college-credit classes and CLEP credits (collegeboard.com/testing) shaves up to two semesters off your college bill.

Save $40,000 The National Center for Education Statistics calculates annual savings of about $10,000 if you can live off campus with a family member—more if you attend college in a large city where the cost of living is higher (nces.ed.gov/collegenavigator).

Prepaid 529s Yea—or nay—to locking in prices? Pro -Protection against tuition increases

Cons -Offered by only 18 states -Can be hard to transfer to new state -Limited enrollment period -Possible penalty for early withdrawal

Sites for Savings

  • Centerforcollegeaffordability.org: See how graduates fare on the job market (also available at payscale.com) and how much debt they have at graduation. Plus, try the “do it yourself” feature that lets you rank colleges based on your own criteria. Brilliant.
  • Collegeboard.com: An all-purpose site for scholarship searches, financial aid planning, and comparing aid awards.
  • Fafsa4caster.ed.gov: Forecast your chances of receiving financial aid. This is a preview of the Free Application for Federal Student Aid (FAFSA) that all aid applicants must file. A streamlined version of the form—with a few dozen of its 153 questions sliced off—will be available after January 1. Many private colleges require the even more extensive College Scholarship Service Profile form (profileonline.collegeboard.com).
  • Finaid.org/calculators: Calculate your EFC—expected family contribution. Payscale.com Find out which majors pay the highest starting salaries and where top earners went to college.
  • Savingforcollege.com: The World’s Simplest College Cost Calculator spits out future costs and how much you’ll have to save, based on your child’s age and college preferences.