Tuesday, November 20, 2007

College Savings Funds

My friends and family laugh at me because I've already started lil' Thumper's college fund. There are basically a few ways you can save for college.

  • Coverdell
  • 529 College Savings Accounts
  • US Government Savings bonds
  • Regular investments
All the contributions are with after-tax money. The first 3 are all tax free if you use it for education.

The Coverdell has a limit of $2000 a year per child. You can use it for any type of education, including K-12 school. You open an account w/ a bank or brokerage that offers this type of account. You can then invest the money however you like.

The 529 College Savings accounts are only for college. They are offered and managed by individual states. There are bigger contribution limits. There are basically two types of 529 plans: College Savings and Prepaid Tuition. One good website I found for the 529 plan is My Money Blog. Do a search on 529 on his website. He talks about the different state offerings and what he chose.

If you have a US Savings Bond, such as an I Bond, you can cash it and use it toward tuition without paying taxes on the interest you earned on the bond.

Lastly, you can always just set up some sort of investment yourself and use it to pay for college. There are no contribution limits of course on having your own investments. You just don't get preferential tax treatment. There's also something called UTMA/UGMA, which allows you to "gift" money to your child and held it in his/her name. Though this probably isn't great because minor's is expected to contribute a bigger percentage of their asset to their college tuition.

Keep in mind also that each of these types of investments have different withdrawal penalties and rules.

I went with the Coverdell account for a few reasons:
1. I did not want to have someone manage my investments
2. I did not want to open up a Prepaid Tuition 529 account.
3. I liked the fact that I could foreseeably withdraw the money for private k-12 tuition if I ever decide to go that route.

Given the flexibility of Coverdell account, and the fact that I can only afford $2000/year contribution right now, I went with Coverdell. If I ever have more money to save, I'd probably open up a 529 account then.

Lastly, remember that you need to save for your own retirement first before you save for your kids' education. They're young, they can afford to be poor at that age, they can work, and there is always financial aid or scholarships. Since you can't count on your kids funding your retirement, you gotta do it yourself first.

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