One of the first things I did when planning for my daughters future was figuring out how to save for her college tuition. If I couldn't pay for it all, I at least had to have something set aside for her education. I had to pay my way through 4 years of college and I don't want her to have to go through that. I don't want to hand everything to her, she is going to have to work for certain things, I just don't want education being one of them. I don't want anyone thinking I had horrible parents or that my mother didn't provide enough for me. She did what she could and I appreciate all the hard work and effort she went through to get me to the point where I could fend for myself. Love you Ma :)
Back to the little princess. It was a toss up between a Coverdell IRA and a 529 plan. The Coverdell IRA is also known as the Education IRA and is offered by most all major banks and institutions. Like most people (I'm guessing), I had never heard of a 529, but IRA's were in practically every financial publication around. I decided to do some research and compare the two options. Again I've only been financially responsible for the last 3-4 years, before that I would take any advice anyone gave me. If it sounded good, I was in. Be it stock tips, business ideas, and other things I'm not proud of. Research anything you don't fully understand before making any decisions, a valuable lesson I've learned from my broke as a joke days. Now, I am by no means a financial planner nor am I licensed to dispense any financial advice, the thoughts expressed in this post my opinions and my thoughts.
Coverdell (Education) IRA:
1. Contributions can reach up to $2,000/year.
2. Any adult can contribute to the plan.
3. Max Income is $95,000/year for any single contributor; $190,000 for married couples.
4. Distributions can be used for middle school, elementary or secondary school.
5. Once your child reaches "college age", the account is theirs, you lose control (a major con in my opinion).
6. Account is an asset for the custodian, not the beneficiary.
7. Balances must be disbursed on qualified education expenses by the time the child is 30 or transfered to another family member below the age of 30 in order to avoid taxes and penalties.
8. Distributions are not federally taxed if used for school expenses .
NY State 529 plan (Plans vary by state, but most have similar parameters):
1. Contributions up to $294,000 per beneficiary.
2. Any adult can contribute with no income limitations.
3. Distributions can only be used for college, not middle or elementary school.
4. Account owner decides on distributions (meaning if you think your child is not ready to handle what can be a sizable chunk of money at 18, you control when the money goes out and to what school).
5. Account remains an asset for parents even when the child is in school, qualifying her for more financial aid if necessary.
6. Distributions are not federally taxed if used for school expenses.
7. No age limit for disbursements.
Now, both of these plans can be transferred rather easily from one beneficiary to the next. My main reasons for going with the 529 were #4 and #5. I don't intend on controlling every aspect of my daughter's life, but it gives me great piece of mind to know that we are still in control of her college savings if she decides to skip college and run off with God knows who. Of course my little princess will not do this to her dear old daddy :), but its good to know. The New York State 529 plan is also administered by Vanguard, so fees will be the lowest in the industry as is Vanguard standard.
For those that don't know, The Vanguard Group is the leader (in terms of fees) of all major US mutual fund families. Their funds are considered more conservative than most, but just stick to the index funds and your money will grow along with the market. The money you save in fees can be reinvested and make up for the conservative nature of their passively-managed funds (as opposed to actively-managed funds). The main competition being T Rowe Price and Fidelity Investments. I mentioned earlier that my Roth IRA is with T Rowe Price and I will give more insight into why in a later post. Vanguard offers very cheap, no-load funds and because this is a 529 you do not have to pay up the $3,000 initial investment normally needed to invest in Vanguard funds. As I have learned, fees are very important as they can eat away at any potential gains over the long haul. $25/month is the minimum needed to invest in this plan, but that also varies by state. So, low fees, no load funds, and small initial investment along with other 529 benefits made this plan a winner for us. Check out your state plan before you decide as there may be other benfits, such as certain state tax breaks for going to state universities.
Also, if we are unable to save enough for her, Lord forbid, this remains an asset of ours (my wife and I) and not hers. She can still apply for financial aid and make up the difference. Or if she remains the prodigy I see her as and gets a full scholarship, I can pass this on to her unborn little brother(my wife's gonna kill me). The Coverdell is also a parental asset so the beneficiary (the child) can list it as a parental asset instead of their own when filing for financial aid. Both of these methods of saving would dispell the myth that the more you save for college, the less financial aid you will get.
One more reason for choosing the 529 was that in New York the Upromise program allows you to register your credit cards and store cards (i.e. Pathmark, CVS, Rite Aide, etc.) and actually donates based on what you spend at these stores. That was a pretty nice perk. You can link Upromise with almost any 529 plan, look into it if you do decide to go this route.
Of course the other option would be to open up a savings account in her name....DON'T DO IT :)
More research led me away from this. Again, this would be an asset in her name which she has to claim in any financial aid applications and we would have no control of how she would use this money. I do believe she needs some savings, just to giver her a leg up on the game of life when shes ready to really start playing, I used ING Direct to open up a sub account with her name (under my main account), which we deposit a small amount into every pay period. Since we started early, we don't have to put in large chunks. The plan is to save up $1,000 in this account. When I feel that she is ready and responsible, this is hers. I plan on teaching her the magic of compounding interest and the value of a dollar. Hopefully she will get a small job or we might pay her to do chores around the house and she can make her own deposits into the account. Again, the main goal of all of this is to provide a better life for my family, I believe financial education is key to my daughters independence.
Hope this was helpful to all who read, I will answer any questions you might have.
Thanks
Love you baby.
Labels: Personal Finance
I am expecting a baby boy in June and have been looking at the issue as well. Your is a pretty good summary, however, I would like to amplify a few things.
1. NY's 529 plan permits Vanguard, but its fees are much higher (30 basis points) than UT's which also uses Vanguard. Unless you are a NY resident and the 30 bp is greater than the amount of the NY state tax savings (it may be in year one, but not in year 3-18), choose UT.
2. You point out that savings in the child's name is terrible. It reduces financial aid by more than 100% of the savings. It is a net negative to save in the child's name and should only be done if the family is so rich it will not get fin aid. However, saving in the parent's name will also reduce fin aid (the amount of the reduction depends on various factors -- a good resource is this website: http://www.finaid.org/calculators/scripts/estimate.cgi )
The best best from a fin aid POV is to save in the grandparent's name (or in some other trusted adult).
Anonymous:
First, congrats on the baby boy. Your in for the ride of your life. I have a girl, so we can compare stories someday.
Thanks for the comment and for reading the post. I'm gald you found the post informative.
1. You are right about UT's 529 being 30bp lower than NY's. I am a New York resident and that was why we chose the plan. We get a state tax deduction of up to $5,000 because we are residents. The deduction goes up to $10K for married couples. Every state has different benefits and everyone should look into their state plan before making a choice, if they go with the 529.
2. About the savings in the child's name. Saving in the parents name will affect fin aid but not as much. As you mentioned, it reduces aid by 100% in the child's name while in the parents name it is less then 10%.
The way we see it, she is going to need money when she gets older, better that it in our name than hers so she can still get some benefits.
Thanks for the site by the way(lots of good info) and good point about the grandparents (or other trusted adults as you say) :)
Come back anytime.
I have an 8-month old son, I also chose the 529 for reasons 4 and 5. I know that when I was 18, I might not have had the maturity to use the money wisely, so I like the fact that I remain in control of the money, both for distribution and for financial aid determination.
As for choosing a state plan, the special benefits for the plan in my does are not that great, so I ended up going with the Ohio 529 plan. The costs between the Ohio and Utah plans are comparable (both have funds run by Vanguard), but what I liked better about Ohio was that, for 100% equity options, Utah only had 2 choices, an S&P 500 and a diversified stock option. For Ohio, you can choose among 4 different plans, an aggressive growth, S&P 500, extended market, and developed international, in any proportion that you want. As I still have 18 years, I can be more aggressive with the Ohio plan than I could be with the Utah plan.
Really really helpful. I have twin boys on the way and I have been researching the benefits of the Coverdell vs a 529 for a couple of days now. I agree that the Coverdell gives a lot more options but the idea of handing 2 18 year old boys a large sum of money I have limited control over was just an accident waiting to happen.
I've been gone for a while and I just saw these 2 comments. I'm glad this post was helpful. This was the reason I started posting. It was dificult for me to find some of the information I was looking for when we had the baby, so I'm trying to put some of those things into easy to read posts. I know they get a little long sometimes, but Ihope you guys enojy them. Glad I could help guys.
Beam: I felt the same way about giving an 18 year old girl a large sum of money :) Good luck with the twins man.
Or you could not play tricks to get financial aid that others may need more than you do, since you saved up money and they might have had their savings wiped out by some event beyond their control. Just saying.
Anonymous: It has nothing to do with playing tricks. It is pretty difficult to save money to pay for an entire college tuition. If you save enough for say the first 2 years, I see no problem with using financial aid to pay for the final 2 years, or use financial aid across all 4 years to subsidize what you've saved up. "People with money always playing tricks to get more" sounds like something someone would say who has trouble saving money and actually planning for their future. This is being smart with your money and using what's available so you can focus on actually studying and learning something, instead of "how in the hell am I gonna pay for next semester" during finals week. If your savings are wiped out by some unfortunate event, financial aid will still be available, there is no cap on how much the gov't will supply, it is based on individual student qualifications.
n the event something catastrophic has happened, take a step back, rebuild your savings and wait until your financially ready to go to school if you don;t have enough money and you don't qualify for financial aid.
I myself was stuck in that situaion and had to work through all 4 years of college because I could not get financial aid.
Don't use excuses, those get old pretty quick. Financial savinnes is not a trick, it's a skill... just saying
Great post - very helpful stuff.
We have a 8 month old daughter too and I am actually leaning towards opening a coverdell acct because of the following reasons:
1. "4. Distributions can be used for middle school, elementary or secondary school." - actually this is a great benefit if you consider all secondary expenses at college as well.
2. Its April already and I can still contribute the $2000/year for 2007. You can't do that in 529.
3. Much greater flexibility to choose your investment distributions - you can pretty much invest in any fund you like unlike 529s where the choices are very limited.
Having said that in a year or two we wont qualify for contributing to a coverdell account so I'll get a 529 account at that time.
Thoughts?
One other very important point is that with all 529 plans, you're limited in selecting from the plan's limited range of mutual funds. In these past 6 months, almost all funds that I've reviewed have been going down. I put in some money about 6 months ago into the Fidelity plan for California, and we've lost money.
On the other hand, with the Coverdell, you can pick and choose ANY stock, mututal fund, or what have you. Right now, with this financial market, this is extremely important, as I said, most of the 529 funds have gone under water.
One other comment, in the SF Chronicle today, they published a report from Morningstar rating all the 529 plans. You can read it here: http://www.sfgate.com/cgi-bin/article.cgi?f=/c/a/2008/04/17/BU46106LGT.DTL
Looks like the Illinois Bright Start College program was the best rated.
I checked their site out, and they too have lost money in the past year as well. See their performance returns here: https://www.brightstartsavings.com/OFI529/AP/PerformanceInfo.do?term=ytd
Don't forget the custodial account. That's a way of saving money for your child - for education or anything else you want to use it for. There isn't the same tax benefit - this is a "trust fund" - but there aren't deposit limits either. http://www.babycenter.com/0_saving-for-college-custodial-accounts_1278801.bc
I don't know why you are afraid your kid will blow the money. By rule, it has to be spent on Education expenses, or there is a tax penalty. It's not like they will buy a motorcycle or plane tickets with it. They might with their own money, but your Coverdell or 529 cash has to be spent on school.
Hi Great post.
Can you mix both plans? for example, put $100 into Coverdell IRA and also another 100 to 529? If so, what would be the befit?
Does anybody has 529 from the state of Georgia? If so, what is your experience?
Thanks,
Dave
Just to clarify a point made,
Assets in a Coverdell ESA *are* considered property of the student, which can reduce the student's financial-aid package. On the other hand, the assets in a 529 savings plan belong to the account owner. This is key from a financial aid perspective.
You can transfer assets in a Coverdell ESA to a 529.
If you're making the switch for financial-aid reasons, make sure the transfer is completed before Dec. 31 of your child's junior year in high school.
Thanks so much to everybody, it was easier to understand how this plans work.
Just to clear up some points to others who stumble upon this thread.
Anonymous June 3, 2009 misses the point. If the kid gets control of the CESA and wants to blow the money they can. The funds could be used for anything and losing ~20% to taxes and penalties isn't going to be much of a disincentive.
The good news is that you can setup the CESA so the kid doesn't get control, see Article V of IRS form 5305ea. In most cases the parent can maintain control until the account is liquidated.
I also believe Anonymous June 3, 2009 is mistaken. Most of the saving for college sites agree with Rad that CESA assets are treated as belonging to the parent for financial aid. So you are only expected to use ~6% for college, not the ~20% that would apply to a student asset. This appears to have been a recent change so some sites still have the old info
529 plan is sounding great . Really, all reasons to opt it is very logical.Thanks for such post.
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I wasn't sure what a Coverdell was, so thanks for the info. I think both options are bad because what if you end up with a child that wants to join the military instead of going to college? If that's an only child, you get hit with penalties for saving the money!
Secondly, the four years you spent in college should have included more writing and grammar classes because your skills are lacking.
^^ lol, and I agree with your first point. Just invest the money in an account you own and what you please (retirement, child's education, new home, etc.).
Unless you are wealthy and are looking for tax breaks.
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