“Saving for a kid’s college can feel like trying to scale a skyscraper. Unfortunately, the tool most recommended to parents for the challenge is often little better than a step stool — one known to wobble.”
– Ben Steverman, Bloomberg.com
Today’s article is a guest post from a friend and colleague, Bryan McCloskey from the Philadelphia. PA area. Bryan is also a Prosperity Economics Advisor and a real estate investor as well. We loved his thinking about college savings plans and asked if we could share his “5 questions” on our blog, too, You can find more of Bryan’s articles at BryanMcCloskey.com
You want the best for your children. You want your children to go to college. You don’t want them saddled with debt when they get out. You’re prepared to save money to help with education costs. This is why financial planning for college students is such a hot topic.
So, is “saving” in a conventional 529 Plan the right thing to do?
I’m going to let you be the judge of that.
What I’d like to do here is just open your eyes to a few things that “typical” financial advice tends to overlook.
But before we consider the 5 questions you should be asking, let’s look at some interesting statistics.
College costs are on a significant upward trajectory, as you may already know. What cost $19,000 a year in 1995 (average Private 4-year college tuition) now costs over $32,000.
Statistically, fewer than 40% of the students who enter college actually graduate within 4 years, and you are easily looking at over $160,000 for one kid to go to college. (And that is at TODAY’s costs.)
Consider the possibility that you might not be able to save “enough” to pay for your children’s education in entirety.
You probably won’t! But that doesn’t mean they should not go to college.
Of course, there are grants and financial aid to help out… for those that qualify. Kids and their parents can take out loans, too (but isn’t that what you are trying to prevent by “saving” for them anyway?)
And you don’t need to save ALL of the money. Not only are there grants and financial aid available for those that qualify, but there is something to be said for your child “having some skin in the game.” A summer job or part-time employment will give them experience, and like education, experience (and a work ethic!) is valuable.
If you are going to try to “save” for help your kids with their college costs, you are probably familiar 529 plans and Coverdell accounts. They are typical solutions for “saving” for college. As you learn about them, you may want to start asking yourself AND the “typical” financial advisor or planner who is talking to you about them these questions:
1. Will this money BE THERE for my child when he/she goes to school?
What kind of question is this? “Of course!” would be the first answer you hope to get in response to this question. But you need to separate the idea of the bucket itself (529 plan) and the investment that is IN the bucket (mutual funds).
This is the main reason why you’ve seen me placing the term “saving” in quotes throughout this article. If you haven’t considered the difference between saving and investing yet, you may want to read the SEC’s definition:
savings” are usually put into the safest places or products that allow you access to your money at any time. Examples include savings accounts, checking accounts, and certificates of deposit.
When you “invest,” you have a greater chance of losing your money than when you “save.” …the money you invest in securities, mutual funds, and other similar investments … You could lose your “principal,” which is the amount you’ve invested.
Now that you realize that you are, in fact, investing for your kid’s college costs…let’s ask that question again. Can mutual funds lose value? Yes. Are mutual funds guaranteed? No.
Ask any parent who was diligently saving for their children’s college through the early 2000’s, when college costs were increasing significantly. By the time the kids turned 18 and proudly picked a school to go to, many Americans found themselves with less money than they put into their college “saving” plans because those accounts were exposed to market volatility through their primary investment tool – the mutual fund.
By the time some of those accounts rebounded, the would-be students were well into their 20s! Parents who liquidated the depressed funds anyways so they could use what they could were forced to sell low when they had bought high. Not a fun choice.
2. What if my child decides not to go to school?
In other words…you can use it for someone else… IF there IS someone else in your family who also needs a college education!
But if there’s not… can you use it for YOUR retirement!?
Uh…no. You already chose to earmark it for education. Can’t change your mind now.
Well, you could change your mind. You can simply take the remaining dollars out of the 529 if you wish. But then you are obligated to pay taxes and a 10% penalty if there are gains. Food for thought.
3. What could this money do for US as parents?
Well, if the money is used for your child’s education, you might have a better chance of your kid not coming back home to live on your couch.
There is a serious question here, however. The premise of “saving for college” is that you build a pool of money that, at some point in the future, gets completely transferred and given to someone else – the college or university.
Let’s just assume you built up a pool of $50,000 for your child’s education. Now, let’s say you are 45 when he goes to school. You use the $50,000 to pay tuition and fees and books. Great.
Now, have you ever considered what the $50,000 could have been worth to YOU if you had not given it away? Let’s just say over the next 20 years that the $50,000 could have been earning 5% hypothetically. In 20 years that $50,000 would be worth $132,000. Giving the money to the college essentially cost you $82,000. Let that sink in.
This concept of giving away money that could have been working for you is called Opportunity Cost. (Measuring Opportunity Costs is one of the 7 Principles of Prosperity™.)
This big picture concept is often overlooked when we focus narrowly on “saving” for college.
4. What if we have an opportunity to use money in another investment?
Great question. Today you don’t have any better place to put the money (keep reading, I’ll give you a few ideas to consider), but let’s say in 3 years you and your business partner come across a piece of rental real estate that could be an excellent investment. You envision that it would be a terrific cash flow opportunity to help with college costs for your kid. You have $40,000 in the 529 plan and it could easily cover the down payment. Perhaps the property is even near the school your child wants to attend!
Can you use the money you already contributed to the 529 plan to invest in the property?
Um. NO. Your investments are limited to the mutual funds available to you.
Well, you could pull the money out and pay the taxes and a penalty…remember? But again, you lose control and access by agreeing to the terms of the 529 plan that may have been overlooked initially.
5. Do these savings affect our ability to obtain financial aid?
This one is an interesting question, and the scope goes well beyond this short article about it. There are different types of financial aid (need-based, academic based, grants, loans), and all should be considered in this equation, but the easy answer to this question is, YES – typical college savings vehicles CAN affect your child’s ability to obtain financial aid
The balance in a 529 plan impacts financial aid calculations. The more money present in a 529 plan, the less financial aid your child will likely qualify for. (Ironically, saving for college can even sabotage your child’s ability to obtain ANY financial aid, while your spendthrift neighbor’s kid could be subsidized by a grant.)
Do you have any other options?
My intention with this article was to offer you a few things to think about and ask about as you consider saving or investing money for your kid’s college costs. You are a good parent, trying to do the right thing. But remember, typical advice leads to typical results.
The good news – There are alternatives that you can depend on.
One of them is taking advantage of a properly designed life insurance policy, and using it for its cash value attributes. It is an excellent place for cash provided that you have a several-year head start before college begins. A life insurance policy’s cash value grows year to year without being exposed to market volatility. It is protected against risk of loss. It has significant tax preferences. It can be leveraged and used for college (or that rental property) yet still captures growth over time so you don’t lose the opportunity for those dollars to work for YOU.
References for statistics above:
Thanks again to Bryan McCloskey for sharing his wisdom with our readers! We are both proudly part of the Prosperity Economics Movement, offering alternatives to Wall Street products and “typical” financial advice.
You can find out more about Prosperity Economics here, and by signing up to receive your complimentary Prosperity Accelerator Pack, including a copy of the ground-breaking ebook, Financial Planning Has FAILED.
If you are an advisor (or interested in becoming one), we urge you to attend The Summit for Prosperity Economics Advisors in Utah July 20-23, 2016. Advisors from across the country will gather together to learn how to provide meaningful alternatives to investors who are weary of speculating in the stock market.