Friday, February 12, 2010

Research The Various 529 Plans - Part 1

Tip #231 - Research The Various 529 Plans - Part 1. If you are desiring to save up money for your children’s education, make sure you do your research. While a 529 plan seems to be the answer for many when investing in their kids’ college funds, it is not the perfect answer for everyone. And even when it is, there are still decisions to make about which plan to join.

First things first. If you are hoping to retire, then saving for retirement should be your primary goal before saving for college. In other words, don’t miss opportunities to save in your 401(k) and your IRA in order to sock away money for your child’s college fund. Being secure in your retirement is more important. Or, as they say in the financial world, you can get loans, financial aid, and scholarships for college. You cannot get them for retirement. Once you are confident that you are maximizing your retirement and are ready to put away money for college, look at all of your options.

--You can just open an account in your child’s name. Children are generally allowed to earn up to $600 in income before having to pay taxes on it. This would work well when your child is young, but as he gets older and starts getting jobs then taxes he will have to pay. Another con to this approach is that if the money is in your child’s name, then he can withdraw his money (when he is of age) and spend it however he sees fit, not just for college or other education. There are better ways to invest for college.

--As a starting point, many people choose a Coverdell Education Savings Account (some people call it an Education IRA). Each year you can put up to $2,000 away for your child towards higher education. (The limit could drop to $500 in 2010 if the law does not extend). The beauty about the Coverdell is that you control where you want to invest. It’s not in some far-away plan being managed by a 529 Plan manager you have never met before. The money can be in your home bank in a CD or it can be in a mutual fund at Vanguard or Fidelity. You decide how conservative or risky you want to be with the money. Of course with a limit of $2,000 per year, the con to this plan is that you won’t save nearly enough money for college this way. But it can be a great starting point.

--The primary option, and the focus of our discussion is the 529 plan. This seems to be the plan most people head straight to when saving for college. There are many pros to the 529. The amount you invest each year is limitless. Most states offer a plan, and there are investing options set up specifically for children your age. Also, your state may offer some tax breaks on money invested in your home state’s plan. However, for new investors, the risks that these plans take may be too much for them to handle. And the fees that some state plans charge may be high. In my next post, we will discuss choosing the best 529 Plan for you.

In Real Life (IRL) – At this point in our lives, my husband and I have been concentrating on our retirement savings, rather than our children’s college savings. We have maximized my husband’s 401(k) at his place of employment. And each year we put the maximum $5,000 into a Roth IRA for each of us. Beyond that, we don’t have a whole lot left over to save for college. For now we are just saving $2,000 per year per child in an Education Savings Account. I’ll admit that I like controlling where the money is invested. And because I am generally more conservative than many investors, I have some of their money in CDs in our local credit union. Many financial advisors would balk at that! But I am happy with the 4-5% their money is earning there. And I have balanced out these “low” returns with some of their money being invested in Vanguard mutual funds.

Because I like controlling how their money is invested, putting the first $2,000 in a Coverdell rather than going straight to a 529 Plan made sense for us during this time in our lives. Once we have more money available (or should I say “if” we have more money available someday), then I wouldn’t hesitate to put the rest in a 529 Plan. At that point, I will need to evaluate which state’s 529 Plan is the best one for us. Therre are lots of things to consider to that end. And we will discuss evaluating the various states’ 529 Plans in my next post. For other money-saving ideas check out Frugal Friday.

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