How to Use a 529 Plan to Pay for College
Find out how using a 529 plan makes it easy to pay for the college of your dreams.
Laura Adams, MBA
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How to Use a 529 Plan to Pay for College
Does the thought of paying for a child’s college education make you want to scream? If you’re struggling to pay down debt or save for retirement, having enough to also fund a kid’s college might seem like an impossible dream.
The good news is that saving even small amounts on a regular basis while children are young, can add up to a surprisingly healthy education fund. Today you’ll learn about my favorite place to set aside money for college so it can grow like Jack’s beanstalk: a 529 plan.>
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If you’re waiting until your kids get accepted into college to figure out how to pay for it, you’re procrastinating an important financial planning task. Although parents are under no obligation to pay for a child’s college, I’ve rarely met any who don’t want to contribute something.
What Is a 529 College Savings Plan?
The best way parents can save for college is to use a nifty, tax-advantaged account called a 529 plan. They’re offered by states and eligible institutions, like colleges, universities, or vocational schools that participate in federal student aid programs.
You contribute money that can be used to pay for a student’s qualified college expenses at an eligible school. Qualified expenses include tuition, books, fees, and equipment for coursework—plus reasonable room and board. The reason I love 529s is because the earnings on your contributions are never subject to income tax.
Although you can choose just about any 529 plan, you may also be eligible for additional benefits, like exemption from state financial aid calculations, if you choose a plan that’s sponsored by your home state.
Everyone can use a 529 plan because there are no restrictions on annual income. The maximum amount you can contribute each year varies on the plan you choose, but could be over six figures per student!
If you have the fortunate problem of contributing too much to a 529, you can change the student on the plan, who is called the designated beneficiary. For instance, if your daughter decides to go to a less expensive school, you could change the beneficiary on the account to your son, or to another member of the family who can use the balance to attend college.
However, keep in mind that if you withdraw money from a 529 and spend it on anything other than qualified education expenses…
…your earnings will be subject to tax and a 10% penalty. So be sure to calculate your student’s potential total college costs as closely as possible. I’ll give you some tips to do that in just a moment.
So, instead of delaying education savings until your children reach college age, start a simple plan now. This will reduce financial stress and make sure that you child doesn’t have to miss college or begin their career with a mountain of student loan debt.
Here are 3 simple steps to pay for college using a 529 plan:
Step #1: Calculate the Cost
Since every financial goal begins with the end in mind, you’ve got to know what college will cost when your child is ready to attend. Obviously, there are many factors to consider, such as the school, the degree, inflation, and any scholarships or grants received.
While it might seem like you need a fortune teller to come up with a realistic number, here are some handy tools that will help:
- How Much Will That College Really Cost? Calculator
- CollegeSavings.org Cost Calculator
- Vanguard’s College Cost Projector
If you have specific schools in mind, contact their admission offices and ask for cost estimates based on your child’s current age. Or consider the cost of a few different schools in various price ranges and take an average. You just need to come up with a target number for planning and can refine it later.
Step #2: Figure Out Your Contribution
As I mentioned, there’s no parenting rule book that says you’re required to pay 100% of a child’s education. After you calculate what college could realistically cost, figure out what’s reasonable for you. Maybe it’s one half, a small percentage, or nothing—especially if your finances are in really bad shape right now.
For instance, if you have a 7-year-old and figure that attending an in-state university will cost $15,000 per year in 10 years when she’s ready to go, that’s a total of $60,000 for a 4 year program. If saving $60,000 over the next 10 years would prevent you from reaching your retirement goals, maybe you could create a plan to squirrel away $20,000 for college instead.
I cover college savings in my award-winning book, Money Girl’s Smart Moves to Grow Rich. One option I suggest in the book is called the Plan of Thirds: You save a third of the cost before college starts, pay for a third during college, and pay the final third after graduation using student loans.
It can be very helpful to use a financial advisor for college planning. He or she can put education savings in the context of the big picture of your finances. You can learn more in How Do You Find a Financial Advisor? Part 1 and Part 2.
Step #3: Pick a Savings Vehicle
After you have a college cost estimate and know how much of it you can pay for, it’s time to choose a 529 plan. There are two types: prepaid tuition plans and savings plans. Here’s the difference…
A prepaid 529 plan allows you to pay future tuition at today’s rates and can be administered by states or institutions—but aren’t available in every state. The idea is that college costs rise year after year, so locking in a rate now will save money in the future.
A 529 savings plan is very different because your account balance is based on the performance of the underlying investments that you choose, similar to a retirement account. These types of 529s can only be administered by states and are available in every one. You can choose a variety of investment options from low-risk CDs to higher-risk growth mutual funds—so don’t think you have to be a high roller to opt for the savings plan.
Each 529 plan has different features and benefits, so always do your homework before enrolling in one. Collegesavings.org and Savingforcollege.com have tools to compare and shop for the best 529 plan for you.
How to Pay for College
Once your 529 account is open, why not invite friends and family via email, social media, or a dedicated URL for paper invitations to make contributions for special events? Check out GradSave, a free online college savings registry that you can link to your child’s 529 plan. Users can even buy gift cards to be redeemed online and deposited into the child’s account.
Saving for college has never been easier. So get started by making a plan to set aside regular contributions to a 529 plan. No matter if you contribute $10 a month or $1,000 a month, the sooner you get started, the easier it will be for you and your family to pay for college.
More Articles and Resources You Might Like:
Is an Institution 529 Eligible? Tool
5 Worst Money Mistakes Couples Make
How to Increase Your Cash Flow, Part 1
Money Girl’s Smart Moves to Grow Rich – get the paperback or ebook today!
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About the Author
Laura Adams received an MBA from the University of Florida. She’s an award-winning personal finance author, speaker, and consumer advocate who is a frequent, trusted source for the national media. Money-Smart Solopreneur: A Personal Finance System for Freelancers, Entrepreneurs, and Side-Hustlers is her newest title. Laura’s previous book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love, was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show.