529 Plans

You have children – young children. And you want them to attend college someday, right? Well, as you already know, college isn’t cheap. In fact, college keeps getting more and more expensive over the years. From 1971 until 2012, college tuition, after adjusting for inflation, increased by 259%. So if you were a man attending college in 1971, average tuition would only cost 7% of your annual income (i.e. average male annual median income). But a man attending college in 2012 would expect to pay about 26% of his annual income for tuition (Of course, unfortunately, median income still remains much lower for women, while tuition remains the same for either gender. So the college burden has been even greater on women over the years).

What does this tell us? It tells us that going to college is more expensive than it was for our parents. And it probably tells us that going to college will be much more expensive for our children than it was for us.

How do you prepare for this? Well, one option is a 529 account. But before we jump into what a 529 account is, let us just prep this by saying we aren’t financial advisors, and don’t purport to be financial experts. But we are concerned about your financial affairs, and we hope that you will allow us to provide this information to you and to steer you in the direction of a qualified financial advisor to best explain how a 529 plan can help you. Ok? Great, onto the useful information.

What is a 529 plan? A 529 plan, or “qualified tuition plan,” is a tax-advantaged savings plan designed to encourage saving for future college costs. There are two types of 529 plans: pre-paid tuition plans and college savings plans. These plans may help you save for future tuition, room and board, books, computers, and other related fees and costs. Although both of these plans may have certain limitations to them, and could affect financial aid, there could also be significant tax benefits involved.

Since 529 plans are not subject to federal tax, and are typically not subject to state tax, they are a great way to grow and accumulate your hard-earned money. Tax-free growth capabilities, what’s better than that? There are plenty of technical aspects to 529 plans, but just remember this: “Tax-free capabilities.”

So why not start to save now? Because if you don’t have money saved for your child’s college tuition, where will you get it? Maybe your child will take out student loans and struggle to pay them off over the course of their adult life (But you’re a better planner than that, right?). Or, even worse, maybe you’ll actually pull from your retirement to provide this gift for your child. But this would cost you so much more money in the end.

To further illustrate this last point, Oppenheimer Funds came up with the following scenario involving two families, whom we’ll call the Smiths and the Coopers. Both families are identical in their makeup – both parents aged 35 with two small children, a two-year-old and a newborn. Both families have saved $75,000 for retirement in a 401(k). The difference is that the Smiths will pull from their retirement to pay for their children’s college. Meaning, the Smiths withdraw $25,000 per year of college, per child. Thus, to graduate both children, it will cost a total of $200,000. Now, that initial $75,000 that the Smiths had invested at age 35, with subsequent annual investments of $5,570, will eventually become $383,036 when the Smiths turn 65 (assuming a 5% annual rate of return). Not bad really, considering the Smiths took out a decent chunk just over midway through their 30-year investing period.

Now the Coopers had a different plan, however. They decided to divide their annual $5,570 contribution between their retirement and a 529 college savings plan. 16 years later, when their oldest child turns 18, the Coopers will have just under $60,000 to put towards their children’s college. Not the full amount, obviously, but a very good amount. And if the Coopers continue to contribute to their retirement account and not withdraw the money, they’ll have $601,922 at age 65. In other words, almost $220,000 more than the Smiths! Again, the value of a 529 plan at work in conjunction with your retirement.

We’re hopefully preaching to the choir, but even just saving a little bit of money goes a long way in the end. Assuming a 5% rate of return, if you put aside $25 a month into a 529 account for your newborn, you’ll have almost $9,000 come college time. That’s the power of compounded growth.

Ok, we’re going to get off of our high horse right now. Hopefully this will at least start a discussion in your house. This discussion can continue in the office of your financial advisor, you can set up an account by yourself online, or you can contact us to recommend a financial advisor to you. The pleasure is ours. Have fun saving!

Warm regards,

Brandon & Caitlin

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