Use these 3 Plans to Save for Your Child’s Future
How soon should you start thinking about your child’s future? Are there even college savings plans for babies? It’s never too early and absolutely. As a new parent, it’s smart to start thinking about college savings plans right away. The earlier you get started, the easier it will be – not to mention your returns will be higher. Today we’re talking about our favorite plans you can use to save for your child’s future, whether they are a baby or a teenager.
Remember, diversification is key. It’s always smart to work a variety of plans into your overall investment strategy. We recommend using all of the plans mentioned below!
Coverdell Education Savings Account
Similar to a traditional IRA or 401(K), these investment plans allow you to contribute funds for the future with unique tax benefits. You contribute money after tax and then any returns you earn are tax free. Plus, you won’t pay tax on the withdrawals if they’re used for educational costs.
We highly recommend opening a Coverdell Education Savings Account as one component in your overall savings strategy.
Pros:
- You have control over your investments.
- The earnings grow tax-free.
- Withdrawals are tax-free if used on qualified expenses.
- You can use the funds for education costs besides college, including elementary tuition, high school tuition, after-school programs, and even tutoring.
- It doesn’t count as an asset when applying for financial aid.
- They can be opened at most brokerage firms or financial institutions.
Cons:
- You can only contribute a maximum of $2,000 per year per child.
- The money is only tax-free when used for education purposes.
- You only qualify for this account if your gross income listed on your taxes falls below $220,000 on a joint return or $110,000 on a single return.
- You can’t contribute after your child turns 18.
- Any remaining amount in the account after your child turns 30 will be taxed.
529 plans
Also known as qualified tuition plans, these tax-advantaged savings plans are sponsored by states, state agencies, and educational institutions. There are two main types of 529 plans.
1) Savings plans – similar to the Coverdell account above
2) Prepaid tuition – you prepay tuition at an in-state public school at the current rates to avoid future tuition price increases
You can enroll in these plans either directly through the state or through a brokerage firm. Visit pa529.com to get specifics on Pennsylvania 529 plans.
Pros:
- Your earnings grow tax-free.
- Your withdrawals are tax-free if used on qualified expenses.
- There are not many contribution limits – you can put in far more per year than a Coverdell account.
- It’s simple to change the beneficiary if your firstborn child doesn’t want to attend college.
- The 529 plan isn’t in your child’s name and won’t hurt their financial aid prospects.
Cons:
- You are subject to an income tax and 10% penalty on your earnings if the money isn’t used for qualified educational expenses.
- The qualified expenses are limited – you can only use the money for college tuition, books, fees, supplies, and room & board.
- You don’t have much control over your investment options.
- Prepaid tuition plans are only recommended if you plan on going to an in-state public school.
Custodial savings account
These are specialized savings accounts found at just about every financial institution. They allow a parent or guardian to co-sign onto the account. We don’t necessarily recommend them for college savings, but they are an invaluable tool to increase your child’s financial independence. When your child has their own bank account, it teaches them basic money concepts in an age-appropriate way.
Look for an account that has added perks like rewards, free financial literacy materials, and low or no fees. For example, our Dollar Dog Kids Club is a good representation of how a custodial savings account should operate.
Pros:
- The funds are not limited to educational expenses.
- They provide a learning opportunity to your child.
- They are easy to find and open at any financial institution.
Cons:
- Since they’re in your child’s name, they will be counted as an asset when applying for financial aid.
- Once your child reaches adulthood, they will have complete control over the money in that account.
- There are no major tax benefits.
Popular education savings strategy
Many experts recommend starting with the 2K rule. For this strategy, you simply multiply your child’s age by two to see how much money you should have saved. For example, if your child is 7 years old, you should have $14,000 saved for their future. This equates to saving $2,000 per year per child. By the time they turn 18, you will have $36,000 to use for their college tuition. While this may not cover the entire tuition, you can probably supplement the rest through financial aid, scholarships, and federal student loans.
Read How to Afford a College Degree in Three Simple Steps to research options once your savings are spent.
The golden rules of saving
Remember these three rules to help you avoid big financial mistakes when saving for your child’s future.
1) It’s never too early to start saving.
2) Every contribution counts, no matter how small.
3) Don’t save for your child’s future at the expense of your own. No one can pay for your retirement except you.
What combination of accounts are you using to save for your child’s future? Have you opened college savings plans for babies in the past? Let us know in the comments below.
Learn more about AmeriChoice’s Coverdell Account.
You have a choice when it comes to a Coverdell Education Savings Account. Discover the benefits of using AmeriChoice for this educational savings strategy. Talk to our experts and easily open a Coverdell account for your child!