For the 2018-2019 school year, the College Board reports that the average cost of college tops $48,500 at a private school and over $37,400 for out-of-state students attending a public university.
It's no wonder that parents start to feel the pressure before a would-be student can even read.
That's why many parents turn to the 529 savings plan, which is a state-sponsored, tax-advantaged investment account open to anyone.
While most of us have heard the words "529 plan," these accounts come with a ton of advantages you may not know about. Michael Egan, CFP and founding partner of Virginia-based financial planning firm Egan, Berger & Weiner, sheds light on how to make the most of a 529:
529s aren't just for traditional college — or limited to tuition. "One of the best things about a 529 is that it's so flexible," says Egan. "You can use it for undergraduate or grad school, or even for technical school or trade school, to pay for tuition, fees, and books."
Anyone can open and contribute. A parent, grandparent, godparent, particularly generous neighbor, or anyone else can open a 529. Likewise, anyone can contribute to one and take the appropriate tax deduction.
Another family member can use the money. While the adult who opens the plan is the plan's owner, the beneficiary is the person who receives the money — and it can be changed. If one child decides not to go to school, goes to a cheaper school than expected, gets a full scholarship (more on that in a minute), or for some other reason doesn't use all of the money, you can simply change the beneficiary on the account and give those funds to another child … or even to yourself, if you'd like to go back to school.
If your kid gets a full ride, you can have the money back. If you saved more than you needed in your 529 and try to pull that money out to use for costs other than education, you'll pay a fee. However, there's one major exception: "If you're not using the money because the kid gets a full scholarship, the penalty is waived," says Egan. "It's a federal rule, so it applies to all plans."
You can choose which 529 you want to use. Since the plans are state-sponsored, each state runs one or more of their own, and savers are allowed to choose which they prefer. At savingforcollege.com, there are 110 options, and each one has a slightly different investment structure.
However, "if you don't use your own state's plan, and you live in a state with income taxes, you may miss out on a tax deduction," warns Egan. "There would have to be a really compelling reason to go outside your own state, like if the other plan had significantly lower expenses and, in net of the tax deduction, you'd still save money."
You can have more than one account. That said, the fact that you can open more than one 529 means that if you have an open account and move out of the state, you can keep your money in your original 529 and open a new one in your new state. While you can choose to consolidate them, Egan mentions that some states will request the money from your tax deduction back if you withdraw the funds — in which case you might as well leave it.
In fact, any family with more than one kid bound for higher education should have an account per child. "For the average person, it's easier to think of an account per child instead of one collective pot to be divvied up," explains Egan. "Then you know that Suzy has her own savings, but you could take money for Suzy out of Johnny's pot if you needed to. It also gives the ability to get more deductions — three plans for three kids allows three times the deduction."
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You can store a lot of money. While the most generous among us have to look out for incurring a gift tax, which is a tax designed to discourage sheltering income in "gifts," you can contribute up to $15,000 per year, per child, and per donor, or $30,000 if you're married, without taxation. And in states like Virginia, Egan adds, there is no cap on the tax deduction you can take if you're age 70 or older.
You can front-load the account. If you need it, there is a way around the donation limit: You can give up to five years' worth of contributions at once — that's $75,000 per person. "In year one of the plan, you might see a grandparent who has done really well for themselves and won't need the money make this kind of contribution," Egan explains. "It means they won't be able to contribute for the next five years, but by putting the money in early, they're giving it more time to compound, and they're getting it out of their estates."
A 529 can last for generations. There is no expiration date on a 529. "If you front-load your grandchild's 529 twice, odds are they may not spend $140,000 when they go to college," says Egan. "That money could stay in the account and go to their kids. You could keep it as a multi-generational family trust."
You can use the money to pay for K-12 education. Under the 2017 Tax Cuts and Jobs Act, you can now also use a 529 plan to pay for up to $10,000 in private or public elementary, middle, and high school tuition.
The bottom line: Whether or not you choose to use a 529 — although for almost everyone, it's the best choice — get started as soon as possible. Note that you do have to wait until the baby arrives, since beneficiaries must have a Social Security number.
Soon afterward, start managing your child's expectations. Egan recommends having discussions well before college about how much money you'll be providing and how much your child is expected to chip in.
"The biggest mistake I see is parents who try and pay 100% of a child's college costs and screw up their own retirement because of it," says Egan. "They run out of money before they run out of life and have to live with their kids for 15 years."
