The Complete Guide to Saving for and Sending Your Kids to College

Should you save for your children’s education? There’s no right or wrong answer. If you want to help them out with college, there are plenty of ways to do it through tax-free investing.

We’ll discuss whether you should or shouldn’t help pay for college, whether or not college is important, and finally, your options to invest for college if that’s the route you decide to take.

Is College a Requirement?

I don’t think we stop to ask ourselves this question enough.

There’s a huge trend that started with the Baby Boomers. People who didn’t go to college think college is the golden ticket for their children. You’ve seen this play out. People who aren’t successful, and think college is the one thing that would’ve made all the difference.

What happens when the “you have to go to college to be successful” mindset is forced on a child? All too often, it leads to a useless degree, because it’s not always a good idea to go to college… just to go to college. Sure, it feels productive, but it can also be a form of procrastination and an excuse to avoid the real world for a few more years.

The studies do seem to show the value of a college degree:

However, there may be more to it.

A recent Georgetown University study did show that, on average, college graduates earn around $1 million more over a lifetime than those without a degree.¹ The Pew Research Center also found that, on average, there is roughly a $17,500 annual income gap between those with a degree and those without.² However, this includes all of those who went to college for a specific reason. Pay special attention to the term “on average” in those studies.

Related: The Guide to College Prep Tests

You don’t have to go far to find studies, and even real-world examples, of people who are underemployed and simply not using their expensive degree.

College is best used with a specific career path in mind. Yes, that may change (most majors do), but the desire to go to college should at least begin with a career option that needs college.

If you want to become a doctor or a lawyer, go to college. If you want to work for someone else in a corporation, go to college. If you want to start your own business, college may or may not be the place for you. This is coming from someone who has sat through the college business classes. You may get more out of reading a couple of books than you will out of a semester in college, when it comes to starting your own business.

And don’t discredit trade, technical, and vocational schools. These don’t seem to hold the merit they should, but these schools are often the answer to your child’s desires, depending on what they want to do with their life. Mike Rowe, the former host of the show Dirty Jobs, even offers a scholarship to help pay for them.³ If you weren’t aware, Rowe is a big advocate for trade schools.

The point is, don’t force your kids to go to college just because you think it means a better life for them. It could end up meaning a bunch of student loans with nothing to show for it but a piece of paper.

I just want you to make an educated decision without feeling like your children’s life will be over if they don’t attend a university.

That being said, while you’re watching your toddler stumble around, you can’t make a decision about college right now. That means you do have to save now, to plan for later. Or do you? Is it your responsibility?

Read: How to Get a Debt-Free Degree

Should You Help Pay for College?

It’s up to you whether you pay for some, none, or all of your children’s college.

There’s no rule (written or unwritten) that says you have to help your children pay for college… at all.

In fact, you could make the argument that you help your children more by forcing them to pay their own way. How so? In a research paper, Laura Hamilton, a professor at University of California, Merced, found that the more parents help with college financially, the lower the grades seem to be.⁴

It makes sense. We appreciate the things we’re invested in.

This example works all the way down to the lowest level. Buy your children a toy, and see how much they appreciate it. Now let your kid save their own money for a toy, and see how much they appreciate it.

This doesn’t end with children.

Adults tend to take better care of a vehicle that they purchased with their own money, as opposed to a vehicle that was given to them. I’ve seen this concept play out plenty of times.

When people work their way through college, everything about the experience is more intentional, and they’re less likely to party away their college days and sleep through finals.

To avoid the “I didn’t pay for this” attitude, but to also lovingly let our kids know we want to help, we’ve decided to pay for part of our children’s education. We don’t intend to pay for all of it. In fact, our goal and hope is that we don’t pay for all of it. This will also encourage our kids to seek out scholarships, and put the work in to make it happen if they really want it.

Related: Everything You Need to Know About Scholarships & Where to Find Them

Now that the big questions are out of the way… did you make a decision yet? Are they going to college? How much are you helping pay for? The good news is that you likely don’t have to decide that right now. But if you do decide to help them pay for college… let’s talk about your options.

Educational Account Options

There are five main options to invest for your child’s college. For most people, there is one choice that is blatantly better than the others, and it’s not the same choice for everyone.

These are all free of taxes if you use the money for education. That means you don’t pay taxes on the capital gains you earn as your money grows.

Here are your options:

1. 529 Plans

A 529 plan is a tax-advantaged investment account to save for higher education. It’s not only for college; you can use 529s to pay for K-12 tuition as well. 529 plans are one of the newest options for college investing. The first 529 plan was established in 1986.

Related: A Simple & Honest Guide to 529 Plans

Within a 529 plan, you have various investment options, including mutual funds and ETFs (exchange-traded funds). There are also target-date funds where your money is automatically invested based on when you’ll need the funds (aggressive investing when your child is young; more conservative as your child gets older).

529 plans are popular for a good reason. They are available across the United States, but they are specific to each state. That doesn’t mean you have to choose your state’s plan though. If you prefer the benefits of a 529 from a different state, you can still contribute to it.

You can typically use a 529 to pay for these expenses:

• Tuition
• Fees
• Books
• Supplies
• Equipment
• Computers
• Room and Board (if the student is enrolled at least half-time)

One of the major benefits to a 529 is that if your student receives a tax-fee scholarship and doesn’t need the money from the 529, you’re able to withdrawal it without a penalty. If your child decides not to go to college, you can change the beneficiary to another qualifying family member (including you), or hold the funds for later. You can also roll the money over into a 529 ABLE account if you have a family member with a disability.

There are no income restrictions to 529 plan contributions, so that’s one less thing to worry about.

You also have the option to use 529 plans for trade and vocational schools (looking at you, Mike Rowe).

You probably won’t have to worry about giving too much to your child’s 529. Contribution limits are generally at least $300,000, depending on the state, with an annual limit of $15,000 per individual (in 2018) without gift-tax consequences. “Per individual” is important, because that means between you and a couple of grandparents, you could give $45,000 in one year, while still avoiding any gift taxes. There isn’t an actual annual contribution limit, as long as you don’t go over the overall limit, but the gift tax can get you if you bust that annual limit.⁵

• 529 Plan Pros: You, not your children, have total control over the money. You can use the money for a variety of things. There are no income restrictions on 529s. Most states don’t have an age limit on when you must use the money. 529s are easily transferred to different children. The contribution limits are high. You can use 529s for trade and vocational schools.
• 529 Plan Cons: You don’t have direct control over the investments; the options for investment funds are limited to the choices in each specific state plan.

2. Coverdell ESA (Educational Savings Account)

The Coverdell ESA, often referred to simply as an ESA, and formerly known as an Education IRA, is another option for your child’s college. It’s an option, but it may not be an enticing one.

With a low annual contribution limit of $2,000 per year, per child (in 2018), income restrictions, and age restrictions, this may not be the best option.

You must use the money within 30 days of the beneficiary turning 30, and the beneficiary must be under 18 while you’re contributing to it (with some exceptions for certain disabilities).⁶ Also, you can’t contribute to an ESA if you earn more than a certain income (around $100,000 for individuals, and $200,000 for married couples, annually).

On a positive note, you have many investment options with ESAs, including most stocks, bonds, and mutual funds. Like a 529, you can use an ESA to pay for lower-level education as well as college.

This is an option, but 529 plans typically offer many more benefits than ESAs.

• ESA Pros: Your investment options are vast. You can use the money to pay for lower level education. You can use the money to pay for a tutor of test prep classes. You can easily transfer the money to another beneficiary.
• ESA Cons: The contribution limit is low. There is an income limit. There are age restrictions.

3. Roth IRA (Individual Retirement Account)

A Roth IRA is a great retirement tool, but it can also be used for education. This is one of the few uses a Roth IRA offers, outside of retirement.⁷

Should you use a retirement account for your child’s education?

There are two views on this, and they both make sense:

1. One view is that you should use a Roth IRA for your child’s education, because if your child doesn’t end up using the money, you have the option to use it for retirement.
2. The other view is that you should not use a Roth IRA for your kid’s education, because most people are already not prepared for retirement.

The majority of Americans are severely underfunded for retirement,⁸ and with a fairly low annual contribution limit, there isn’t enough room to invest for both in the same account.

Which view is right? I would be cautious of using an IRA for your child’s education, but if you do, make sure your retirement is set up first. You don’t want to fund their college just so they can turn around and fund your retirement.

If you have another retirement option, like a 401(k), Thrift Savings Plan, SEP-IRA, or a pension plan, then you may have the flexibility to use a Roth IRA for your child’s college.

• Roth IRA Pros: You can use the money for retirement if your child doesn’t need it. You have a wide range of investment options (almost anything you want).
• Roth IRA Cons: You can’t contribute as much to retirement since the contribution limits are low.

4. Municipal Bonds

Municipal bonds, also known as munis,  are best used for those in high income brackets. Sure, you won’t pay taxes on your capital gains, so that’s appealing, but that’s also the case with the other options listed here.

The yield is typically low, at around a 3-4% average, but that beats a savings account.

You aren’t forced to use municipal bonds for education, so there is some flexibility there.

While municipal bonds aren’t a bad option, they don’t really retain the benefits of other college savings avenues. They are safer though, since they’re bonds, but that’s also the reason for a lower rate of return.

• Municipal Bond Pros: Your options for how you use the money are flexible. They are a relatively safe investment.
• Municipal Bond Cons: The interest rate is low. You have no options for how the money is invested.

5. Custodial Accounts

The Uniform Gifts to Minors Act and Uniform Transfers to Minors Act allow you to designate your child as a trustee with custodial accounts.

However, once the child turns 18 or 21 (depending on your state), they have full reign of how to spend the money.

Ever read the parable of the prodigal son? I’m not sure that it’s best to give your child free reign of the money you’ve saved, especially when they’re just out of high school, but that’s up to you.

• Custodial Account Pros: I don’t see any pros over the other options.
• Custodial Account Cons: Have you ever read the parable of the prodigal son?

What’s Best for You

If your child decides to go to college, and if you decide to help pay for it, you have plenty of options for investing.

While the 529 plan is becoming the most popular, and it’s the most appealing for the majority of people, another option could be better for you in your specific situation.

It’s important to look at all your options and then make your choice. Do your research and find the best option — and the best option within that option. For example, if you decide on a 529 plan, find the state that offers you the most benefits.

Do your research and start as soon as possible.

Further Book Reading

• The College Tuition Riddle by C J Carlsen
• College Essay Essentials by Ethan Sawyer
• The Best 384 Colleges by Princeton Review and Robert Franek