A diploma isn’t the only thing college graduates have to show for their hard work. They also carry an average of $37,693 of debt associated with their years spent pursuing higher education. As parents, we’ll do anything we can to help our children shoulder that burden, or avoid college debt altogether. 

Who wouldn’t agree that saving for their child’s future education is a good idea? Probably very few. Yet it’s often an idea that sits on a to-do list when kids are young and family life is hectic. The reality is, the sooner you can start stashing money away, the more time that money has to grow before your child will need to use it for college expenses. 

Saving for college can feel like a daunting task, but with some careful planning and focused strategies you absolutely can build a healthy college fund for your child. 

Begin with a Goal in Mind

There’s no rule that says you must fund 100% of your child’s college expenses, and with the average tuition rates running $10,560 per year for public universities and $37,650 for private, few families can afford to foot the entire bill. 

Decide what your savings goal will be. Maybe you’d like to contribute 75% or 50% of your child’s annual college expenses. Or maybe setting a fixed dollar amount as your goal is the right choice for you, knowing your child might be able to utilize other funding through the Free Application for Federal Student Aid (FAFSA). Know your options and work backwards to decide on a goal. 

When your child is old enough, include them in discussions about college savings and manage their expectations about how much you can afford to contribute. Will they need to fund a portion of their college expenses themselves? Will they do that with a part-time job or student aid? What’s the difference in cost between your state university and a private college, and how will that difference be met if your child has their heart set on the more costly school? 

Let them know you expect them to take some ownership of saving for college and decide on a plan that works for all of you. 

Know Your Savings Options 

There’s no one right way to save for college, and you have options when it comes to picking a plan that’s right for you. Savings options offer tax-benefits or other incentives as well as carry potential risks, contribution limits or maintenance costs. Make sure you understand all the choices available to you, and consult with a qualified financial professional for more help in determining which method will best help you meet your goals. 

529 Plans

Many families opt to save through qualified tuition plans, also known as 529s. A 529 is a state-sponsored investment plan that, depending on your state, may offer tax benefits when used to pay for qualified education expenses for a designated beneficiary (often, your child).  529 owners must choose from a limited list of investment options — usually long-term mutual funds — set up by the plan.

Parents can take a “set it and forget it” approach with automatic monthly contributions, allowing their money to grow “tax-deferred” over time. In other words, let’s say your income is $50,000 per year, and you put $2,000 into your child’s 529 plan. Your federal taxes will be based upon $48,000 of income instead of $50,000, because those donations you made to your child’s college fund are “tax deferred.” Every little bit you lower your taxes helps, especially over time!

Plus, with a 529, other family members (like grandparents) may also contribute to the fund. When it’s time for college, you can make tax-free withdrawals to pay for tuition, room and board, books and other qualifying expenses. 

529 Plan Pros:

• Contributions grow tax-deferred and distributions are tax-free if used for qualifying expenses, like tuition, books, room and board and supplies. Some plans offer state tax benefits as well. 
• Automatic monthly contributions can be set up to allow for low maintenance investing with the funds managed by a plan manager.
• Unlike other investment plans (a Roth IRA for example), there are no annual contribution limits to a 529 plan.
  

529 Plan Cons: 

• Non-qualified distributions (if you withdraw the money for something other than education expenses for example) are subject to tax and potential penalties. 
• Most 529 plans have maintenance fees attached, which vary from plan to plan. 
  

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Coverdell Education Savings Account

Like a 529, a Coverdell Education Savings Account (ESA) offers an investment option for tax-free savings and withdrawals for qualified education expenses, but with some differences from a 529. 

ESA contributions are limited to $2,000 per child per year and are subject to eligibility requirements based on income; married couples filing jointly must earn less than $190k, and single filers must earn less than $95k in order to make the full $2,000 contribution. 

Contributions must also be made by the time the child is 18 and distributed by the time they are 30 or the fund could be subject to penalties and fines. Contributions to an ESA go into a fund that will eventually be distributed to your child, even if not used for college. This differs from a 529 in which leftover funds can be redirected back to yourself as the owner of the 529.

ESA Pros: 

• Tax-free withdrawals can be used to cover qualifying educational expenses.
• A wide range of investment options are available including stocks, bonds, mutual funds or real estate investments.
• For the FAFSA, an ESA is considered an asset of the parent, and won’t hinder your child’s chances for receiving student aid. 
  

ESA Cons: 

• The maximum combined contribution is $2,000 per year. 
• Contributions aren’t allowed after 18, and must be used before the age of 30.
• To make the full $2,000 annual contribution to an ESA, single filers must earn less than $95,000 and married couples filing jointly less than $190,000.

Custodial Accounts

A custodial account is a savings account set up through a financial institution like a bank, credit union or investment brokerage, for a minor child and managed by an adult. If you’re considering a custodial account for college savings, the main difference to be aware of is that contributions to custodial accounts are not tax deductible as with a 529 or ESA. 

Custodial accounts have two types, based upon the kind of assets each account is allowed to hold. The Uniform Gift To Minors Act (UGTM) account can hold typical financial assets like cash, stocks, bonds, annuities or insurance policies. The Uniform Transfer To Minors Act account is flexible in that it can hold the same assets mentioned above as well as investments like real estate, jewelry, artwork, collectibles and intellectual property. 

Neither type of account is college-savings specific, which offers a great deal of flexibility, but also means these accounts are usually not eligible for the same types of tax advantages that are often associated with more traditional college savings plans. 

Eventually, the custodial account will pass to the child when that child comes of age (usually at 18 or 21, varying by state) and will have full access to the funds to spend any way they wish. 

Custodial Account Pros:

• Custodial accounts are extremely flexible with no limits on contributions, income or penalties for early withdrawal, nor do they require withdrawals at any point. 
• While the custodian must use the funds in a way that benefits the minor, they’re not limited to covering educational costs alone.
• There are a wide range of investment options with custodial accounts including stocks, real estate, mutual funds or cash. 
  

Custodial Account Cons: 

• Though there are some tax benefits to custodial accounts, other tax breaks are excluded, and contributions to a custodial account are not tax deductible. 
• Contributions made to a custodial account are irrevocable, meaning once they’re made they cannot be changed.
  

It's Never Too Late to Start

It’s always a good idea to start saving for college sooner rather than later to allow your money the maximum amount of time to grow before you need it. But don’t worry, it’s never too late to start, even if you didn’t begin a college fund the same day your child was born. If you’re reading this, you’re already headed in the right direction.

If you have questions or concerns about the best way to save for college, it’s a good idea to seek the advice of a tax or financial professional. They’ll review all your options with you, so you can feel good about starting that college fund.