The end of the school year is a time to celebrate the achievements of the young scholars in your clients’ lives. Whether they are graduating kindergarten or high school—or completing one of the grades in between—each student took many steps toward adulthood since classes began last fall.
Indeed, your clients may be taking stock of how the kids they care about have changed. That’s why this is also a great time to check in with clients about their progress toward one of the most important financial goals for many families—college savings.
Providing a college education to one or more loved ones may be one of the largest expenses your clients face after funding retirement and paying for housing, because tuition costs are currently rising faster than inflation. But just how hefty will those tuition bills be? The answer depends on how many years clients have to prepare.
Consider this: For the 2018-19 academic year, the average cost (tuition, fees, room and board, other expenses) is $25,890 for in-state students at public four-year college; for four-year private schools, the corresponding expense is $52,500, according to the College Board.1 By this time in 2031 (when this year’s first graders are college freshmen) the average cost for a four-year degree are projected to be $289,722 and $375,485 respectively, assuming 5 percent annual inflation adjustments.
While the costs of higher education can be daunting, paying for college is money well spent—in fact, over the course of their lifetimes, college graduates earn about $1 million more than students with just a high school diploma, according to a report from Georgetown University.2
What strategies are best for your clients? For the majority of people, college savings is best done over time, and the sooner saving is started, the better. Recommending a savings vehicle at the birth of a child, or kindergarten graduation, is a sustainable strategy so clients can invest a portion of their income every month, and see the earnings compound over time. For encouragement, remind your clients that money invested the year the child is born may be worth two to three times as much as money invested once the child is in high school.
In determining the amount to put away for a child’s higher education, other factors include considering the client’s other financial goals, such as retirement savings and monthly bills. Clients’ own retirement saving should never be put on hold for college savings, as client’s cannot borrow for retirement, but students can take out loans, apply for scholarships, and take on part-time jobs to defray the costs of higher education.
College funding possibilities
You may already be familiar with the most popular college-savings vehicles, but here are a few highlights that you may find particularly valuable in your preparation for, and conversations with, your clients:
529 plans— Despite the amount of attention they’ve received in recent years, 529 plans are not as popular as you might have expected. In fact, one survey found that only 18 percent of families are using these plans.3 And the families that do use 529 plans are the wealthier ones, with about 25 times more assets than those who don’t use them.4 But 529 plans are readily available to anyone; there’s typically no minimum investment, and investors can automatically contribute quite small amounts each month. Consequently, you’ve got a potentially large market, even apart from your high net worth clients.
And for all your clients, you can stress the key benefits of 529 plans: the tax advantages (i.e., earnings accumulate tax-free when used for qualified higher education expenses, plus state tax credits or deductions); the high contribution limits; the freedom to invest in any state’s plan, the flexibility to switch beneficiaries; and the ability to use 529 plans for virtually any type of higher education, including four-year and two-year colleges and vocational schools.
You might want to remind your clients that a 529 plan can affect their children’s needs-based financial aid—but it might not doom it. As long as the 529 assets are under the parents’ control, they typically will be assessed at a maximum rate of 5.64 percent in determining the families expected contribution under the federal financial aid formula, as opposed to the usual 20 percent rate for assets held in the student’s name.
You also may find that some of your clients want to establish a 529 plan for their grandchildren; although a 529 plan owned by a grandparent won’t be reported as an asset on the Free Application For Federal Student Aid (FAFSA), withdrawals from the plan are treated as untaxed income to the beneficiary (i.e., the grandchild)—and that could have a big impact on financial aid. So, you may want to advise clients with grandchildren to contact a financial aid professional about the potential effects of any gifts they’re considering.
Coverdell Education Savings Account— For a while, many people in our industry thought the Coverdell Educations Savings Account would disappear, but it’s still around. A Coverdell account is similar to a 529 plan in that earnings and withdrawals are tax-free, provided the money is used for qualified education expenses. However, while anyone can invest in a 529 plan, regardless of income, parents whose modified adjusted gross is over $220,000 (or $110,000 for single filers) cannot contribute to a Coverdell account—and, perhaps more importantly, the maximum contribution amount is just $2000 per year. Plus, a Coverdell account operates more like a custodial account, in which the funds are the property of the beneficiary and cannot be revoked. By contrast, a 529 plan owner—not the beneficiary—retains control of the assets over the life of the account.
Nonetheless, a Coverdell account does offer one feature that might appeal to your clients—the ability to self-direct investments. With a 529 plan, families must invest in the portfolios offered by each plan. While this might not be a problem for many people—the 529 portfolios can include age-based options that automatically shift allocations over time as the beneficiary gets closer to college—some of your clients may still want more control over where their money goes. And, similar to an IRA, a Coverdell account essentially offers investors the universe of investments—individual stocks, ETFs, mutual funds and so on.
U.S. Savings bonds— Series EE and Series I are virtually risk-free bonds with tax benefits for clients looking for certainty in their investment, although the bonds have a lower rate of return compared to 529s.
To purchase U.S. Savings bonds, the owner must be at least 24 years of age, meaning the bond should be in the parent’s or grandparent’s name. Owners of the bonds who fall within specific gross income ranges are eligible for tax exemptions, when the bonds are used for higher education expenses.
Zero coupon bonds— Those of your clients who prefer a high degree of certainty might be interested in investing in a zero coupon bond that matures just when their child is ready to go to college. Of course, they’ll need to understand that even though they won’t receive regular interest payments throughout the life of their bond, they’ll still be liable for the taxes.
These aren’t the only ways to save and invest for college, but they may well be of interest to your clients.
Today is always a good day to plan for college savings
In every client’s life, the annual “end of the school year celebration” will eventually mean “off to college” the following fall for someone they care about. Take time now to sit down with your clients and discuss how to make that milestone possible financially.
If they’re comfortable, encourage parents to ask grandparents, close relatives and friends for financial gifts to education savings instead of giving toys or presents at graduations, birthdays and holidays. You’ll be helping clients greatly by talking about ways they can prepare for the high cost of higher education.
- Average Estimated Undergraduate Budgets, 2018-2019. Retrieved from https://trends.collegeboard.org/college-pricing/figures-tables/average-estimated-undergraduate-budgets-2018-19
- “The Economic Value of College Majors” Georgetown University Center on Education and the Workforce, 2015. Retrieved from https://cew.georgetown.edu/cew-reports/valueofcollegemajors/
- "How America Pays for College" Sallie Mae 2018. Retrieved from https://www.salliemae.com/assets/research/HAP/HowAmericaPaysforCollege2018.pdf
- Government Accountability Office, as cited by Bloomberg.com. Retrieved from https://www.bloomberg.com/news/articles/2014-09-09/why-97-of-people-don-t-use-529-college-savings-plans