Ask Money

Saving for college

Chris Farrell Mar 3, 2010

Question: My baby is 9 months old. If everything goes the way I want it to, he will be starting college (hopefully at UC Santa Cruz where I went) in 18-20 years. What type of account should I open to start putting money away for his tuition and living expenses? I can start with about $5000 and I would like to put money in periodically.

My problem is I don’t trust anything or anyone (except for Chris Farrell), so what are my options since I do actually want to work with a financial group or individual who can guide me in this process. THANK YOU! Stefano, Los Angeles, CA

Answer: Wow. Thank you for your kind words and trust. Congraulations on your nrew baby. It’s great that your already thinking about college (but as a parent I have to caution you that you may have intentions of where your child may go to college, but he’ll have a mind and will all his own.)

I have a chapter about college in my new book, The New Frugality: How to Consume Less, Save More, and Live Better. In essence, I favor a two-pronged savings strategy. First, I would put part of your savings into various taxable accounts. The money can go into everything from savings accounts to certificates of deposit to Treasury securities to broad-based equity index funds. It all depends on how much risk your willing to take with the savings.

The basic idea is that you build up a pool of savings over time.–which is a good thing anyway. When your child is ready to attend college you can start cashing in the savings. Yet a lot can happen over the next 18 to 21 years. For instance, the financial aid system may drastically change or your child may get a hefty scholarship. If you don’t need all or even some of the money for college you can tap it for your retirement or to take your family on a wonderful vacation. In essence, you give up tax shelter in return for financial flexibility.

However, the state-sponsored 529 college savings plans are attractive. The plan is funded with after-tax dollars. But the gain are withdrawn tax free if the money goes toward qualified educational expenses. Anyone can contribute to the 529, including family, relatives and friends. A 529 is a tax savvy way to save, but it only works if the money goes toward college.

Unfortunately, 529 college savings plans have gotten enormously complicated. The choices can be overwhelming. Far too many plans are disappointing, with high fees and poor performance.

To cut through the 529 universe I favor the state-sponsored 529 plans. I like the age-based investing option, which means the plan automatically invests more conservatively as your child ages. You don’t want the money at risk when you start writing those tuition checks. I would stick with the moderate to conservative risk choices among the age-based funds. A good source of 529 college savings information is savingforcollege.com

Good luck..

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