Tuesday, May 5, 2009

Save For Your Child's Education - Part 5


Saving Money Tip #132 - Save For Your Child’s Education – Part 5. Today we will wrap up our discussion on saving for your child's education. We will talk about the Prepaid Tuition Plans offered by some states. Prepaid college plans are actually another type of 529 Plan. However, many people when referring to a 529 Plan are usually referring to the 529 Savings Plan that we discussed yesterday. Basically, a Prepaid College Tuition plan is when a state (or a higher education institution) offers you a chance to pay today for your child’s college tuition in the future. For example, if you have a 5-year old child who will go into college in 13 years, you can lock in her tuition rate. The state computes a formula based on estimated tuition increases for the next 13 years as well as expected investment results from today’s money and comes up with a figure for what you would need to pay.

The advantage of this type of plan is that regardless of what tuition rates do - whether they skyrocket or not over the next 13 years, you are locked in. You don’t have to worry about how fast the rates rise if you lock in today. You also don’t have to worry about how to invest – what rates of return you will get because the rates of return are calculated into the formula used for what you pay today.

However, there are disadvantages, too. It’s possible that you would have better investment returns on your money than what they are figuring into their formula, which is a usually fairly conservative rate of return. Also, it’s possible that tuition rates will not rise as much as they estimate. In other words, if you prepay $40,000 for tuition today for your child’s college in 13 years, it’s possible that you would have done better investing that same $40,000 on your own if you get a good rate of return and/or if college tuition rates increase slower than estimated.

Prepaid College Tuition Plans, like 529 Savings Plans are offered by the state, although a much smaller number of states offer Prepaid plans. Because it’s offered by the state, they usually only allow tuition to a public in-state university. If your child does not go to a school within the state or goes to a private university, the Prepaid College Tuition usually does not cover that. Instead the money will get put toward the other school based on a set interest rate return (again, a fairly conservative return, and not necessarily better than what you would have done investing this same money on your own). Also, like the 529 Savings Plans, some state’s plans are better than others. Most state’s plans only cover tuition costs, so you still have to save for room and board. Furthermore, states may only offer this type of plan during certain enrollment periods, so this plan is not necessarily readily available when you want it.

If you are the type of person who is not interested in looking into various investments for saving for college and want the guarantee that when it’s time for college, that it’s paid for, and if you are virtually certain that your child will go to a public university in your state, then the Prepaid College Tuition plan might be right for you. If you think you can beat the investment returns of the state or if you think college tuition rates will increase slower than estimated or if you think your child might look to a private college or an out-of-state college, then the Prepaid College Tuition Plan is probably not right for you.

The two websites that I mentioned in yesterday’s post that detail 529 plans also give details on the various states’ Prepaid College Tuition Plans: Saving for College (sponsored by Bankrate) and College Savings.

In Real Life (IRL) – Living in Virginia, I have heard most about Virginia’s Prepaid College Tuition Plan. And I believe it was considered one of the better plans in the country, at least at one time. Apparently, the amount you have to pay has gone up quite a bit over the last few years, as tuition rates have skyrocketed. So, people who did the prepaid tuition years ago probably did quite well participating in it. Today with the economy being what it is, I wonder if tuition rate increases will slow down. The Virginia plan is attractive in another way, because there are so many good public schools within the state, while other states might not have as many options. However, even knowing that and hoping my child will go to one of the state schools, I have a hard time locking into a plan that has so many limitations.

In this 4-part series, about saving for college, we have discussed various ways available to save for college, discussing in detail the main options of the Coverdell Education Savings Plans, the 529 Savings Plans, and Prepaid College Tuition Plans. As mentioned in the first part of this series, there are other ways you can save, too. I also said that I would discuss more thoroughly what we are doing in real life. We have been putting away $2000 per year for each of our children in an ESA. We estimate that it will cover one year of college. I am hoping, however, to go back to work in about a year or so, and with my income, we should be able to put away a bit more, but still not the full amount.

Our detailed plan to pay for college is to use the money we are currently using toward our mortgage. When we bought our home almost 9 years ago, rates were fairly favorable, but a couple of years later they were even better. At that point we were able to refinance into a good rate (4.75%) for a 15-year mortgage, and we were able to cover the expense on just my husband’s income. We are currently 6 ½ years into our 15-year mortgage, so we have 8 ½ years left. Our daughter won’t be starting college until 3 years after that. Our plan is to use that money toward college. That is what seems to work for us. It might change, but that is the plan for now. And when saving for college, whether you are planning to pay for it from savings in an ESA, a 529, a Prepaid College Plan, a Roth IRA, or from a Trust your grandparents have set up is not as important as actually having a plan to pay for college. Don’t let it sneak up on you one day and you realize that you have not done anything to help your child cover this great expense. It will be a big help down the road to start your child off on the right foot.

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