Saving for College Doing Your Homework on College Funding By Mark Helm, Arlington Financial Volunteer

Scary Statistics on College Costs College costs have been rising dramatically In 1984, tuition and fees (in today’s dollars) were $1,148 at the average public university and $5,093 at a private college In 2004, tuition and fees were $4,964 at a public university and $19,710 at a private college Including room and board, a public university costs about $12,000 a year, while a private college cost nearly $30,000

The Pain Won’t End College Costs are expected to rise about 5% annually - compared with 2-3% for inflation For child born today, you can expect to pay about $12,000 a year in tuition and fees at a public university and nearly $50,000 at a private college In today’s dollars, that means tuition and fees at a public university will cost about $8,400 a year, while the annual cost at a private university will cost nearly $34,000 Add in room and board, travel expenses, books and computers, and parents can expect to need in the ballpark of $100,000 to send their child to a public university and $200,000 to a private school

Some Relief Most students receive some financial aid However, much of the “free money” or grants tend to go to poor families or very best students Recent study found that 37 percent of students with annual family incomes between $70,000 and $100,000 got some form of aid; 22 percent of those over $100,000 However, for these families that aid often is in the form of loans

Cost of Not Going to College According to the U.S. Census Bureau, people with a bachelor's degree earn over 60 percent more on average than those with only a high school diploma Over a lifetime, the gap in earning potential between a high school diploma and a B.A. (or higher) is more than $1,000,000 College is the path to the middle and upper- middle class in the United States

Options Don’t save for college Save for College Hope for an academic or athletic scholarship Have the child pay for school - builds “character” Save for College Best vehicles Balancing with retirement savings

Savings Options Pre-paid Tuition Plans Tax-advantaged Plans Coverdell/Education IRA Custodial Accounts Personal Savings Accounts Roth IRA

So Which is Best? No perfect choice Each option has pros and cons Best option will depend on your particular circumstances

Pre-paid Tuition Plans Best plan that almost never works Pros Get tuition at a bargain price Cons What if you move What if your child wants to go to a private college or an out-of-state university Best for parents with older kids where the college choice is more clear

529 Plans Pros Tax-free distributions if used for higher ed Almost unlimited contribution limits Donor retains control of account State tax deduction ($2,000 in Virginia) Considered parents’ asset for financial aid Cons Limited choices High fees Tax-free status expires in 2010 Shifting sands - states often switch sponsors

Virginia 529 Plan Run by American Funds 21 mutual funds to choose from Not as many as it sounds No value funds, no small cap Very high fees Sales fee of 6% Annual fees run between 0.7% and 1.3%

Coverdell/Education IRA Pros Tax-free distributions if used for higher ed Unlimited choice Low fees Funds can be used for private high school Considered parents’ asset for financial aid Cons $2,000 limit on contributions Income ceiling $95,000 if single; $190,00 if married Student has control of the funds

Coverdell vs. Virginia 529 Plan For first $2,000, 529 tax deduction = 529 sales charge Fees: 0.3% with Coverdell 0.8% with 529 Coverdell offers choice and flexibility

Education IRA vs. Virginia 529 Assuming an 8% return and contributing $2,000 a year, the Coverdell would grow to about $77,450, while the 529 would increase to around $68,950 - an $8,503 difference If the parents actually saved the money from the tax deduction, the difference would be about $4,100.

Who should consider Coverdell Families who aren’t going to save more than $2,000 per child Families who can save more than $2,000 per child who don’t mind supplementing a Coverdell with a second account

Who should consider the Va. 529 Plan Parents who want to save more than $2,000 a year and who don’t want to hassle with several accounts Wealthy parents or grandparents who want to make a large lump-sum contribution 529 plans are the only vehicle that allow you to contribute up to $55,000 at once ($110,000 for a married couple) without gift-tax consequences

Other Options UTMA/UGMA (Custodial Accounts) Personal savings Roth IRA

Custodial Accounts Pros Cons High contribution limits Choice of investment vehicles Lower tax on dividends and long-term capital gains Cons Considered the child’s asset for financial aid Child takes control of money at 18 or 21 Income taxed to child each year Under 14, first $800 is not taxed due to standard deduction; next $800 taxed at child’s rate (10%) and anything above $1,600 taxed at parents rates

Who should consider a Custodial Account High-income families with older children who are not likely to qualify for financial aid Can transfer highly appreciated stock

Personal Savings No tax-free distributions Pros Lower capital gains rates make option more appealing Use index funds or tax-managed funds When it comes time to sell, consider gifting funds to child, so the sale is taxed at their rate Can take advantage of big capital losses from the bear market Total control - Can use for things besides college Cons No tax-free distributions

Roth IRA Fund a Roth IRA with after-tax contributions. All withdrawals for retirement are tax free Pros No 10% penalty for withdrawals used to pay for higher education Contribution withdrawals are not taxed Can use for retirement as well as college funding Cons If Roth IRA owner hasn’t been invested for five years, ordinary tax will be due on earnings portion of distribution

Great Combo: Education IRA and Roth IRA Use Education IRA as main savings vehicle supplemented by Roth IRA Education IRA allows you to build up substantial amount of funds for college costs Roth IRA can be tapped to fill in the gap if you feel comfortable with your retirement savings

College Savings vs. Retirement Retirement wins Before you consider college funding, make sure you are secure in your retirement funding For parents and the child going to school, there are loans, tuition credits, scholarships and grants Child will have 40 working years to pay off the loans But when you retire, it’s the same as 25 or 30 years of being unemployed - where will you find the money to survive?

Don’t Worry if You Don’t Make It It’s not the end of the world if you can’t pay the entire cost of your child’s education Assume it costs $20,000 a year for college and you’ve only saved enough to pay for $10,000. Along with savings, you can provide $2,000 a year Child earns $5,000 from working (10 hours a week) That leaves a shortfall of $3,000 a year or $12,000 in loans at the end of college A loan payment of about $140 a month For the price of a used car, your child will likely earn an extra $1 million over his or her lifetime

Teach Your Kids About Money Getting a good education is the starting line in your child’s financial life, not the finish line Many college students get into heavy credit card debt because their parents never taught them about personal finance The country is filled with well-educated, well-paid people who spend their entire life struggling financially

Teaching Tips Talk about money Let your child see you handle money Have your child follow a budget Use allowance to teach long-term goal planning Let your children make money mistakes