Best Ways to Save for College

By Greenstein, Rogoff, Olsen & Co., LLP
3/3/2009

Plan Type

Description

Pros

Cons

529 Plan-
Savings
These state-sponsored plans allow you to invest for college tuition and other expenses.  They also allow you to invest in mutual funds or similar investments.
  1. State tax deductible.
  2. Withdrawals are tax-free as long as the money is used for qualified education expenses.
  3. Important to avoid kiddie tax.
  4. Controlled by parent even after 21.
  5. Not subject to gift tax.
  6. Can take a refund although there is a penalty.
  7. No AGI limitation.
  1. Some 529 plans carry large expenses and fees.
  2. Returns aren't guarantees: If your investments perform poorly, you could lose money.
529 Plan-
Prepaid Tuitions
Let you buy tuition shares at state-funded colleges and universities, which are guaranteed to retain their value even if tuition increases.
  1. You won't lose your money if the stock market declines.
  2. Even if your child goes to a private or out-of-state college, the plan will pay out the average of in-state tuition rates. Also, see above.
  1. Most prepaid plans are limited to state residents.
  2. Not all states offer them.
  3. Lower rate of return.
Education Savings Accounts (ESAs);
also called Coverdell ESAs or CESAs
Allow you to invest in mutual funds or other investments for your child's education.
  1. You can design your own portfolio.
  2. Savings can be used for primary and secondary school tuition as well as college expenses.
  3. There is a low minimum contribution amount.
  4. Distributions are tax free if they are used for education expenses and is not more than the beneficiary's adjusted education expenses for the year.
  5. Can change beneficiary.
  1. Contributions are limited to $2,000 per year per beneficiary.
  2. If your modified adjusted gross income is less than $110,000 ($220,000 if filing jointly), you may be able to establish a Coverdell ESA.
  3. Contributions are not deductible for both federal and state.
  4. Distribution is required before a beneficiary reaches age 30.
Uniform Gifts to Minors and Uniform Transfers to Minor Accounts These are established in your child's name, but you control the assets until the child is 18 or 21, depending on your state.
  1. You determine how the money is invested.
  2. It can be used for anything that benefits your child.
  1. Your child controls the assets after reaching the age of majority.
  2. The money is considered the child's asset, which might reduce the amount of financial aid available.
  3. Can't change a beneficiary.
  4. Parent can't take a refund from the account except for expenditure for the benefit of the Child Uniform S.T. Act.
Roth Individual Retirement Account You can withdraw the amount of your original contributions without paying taxes or penalties. If you withdraw not more than that to pay for college and if the distributions are not more than your qualified higher education expenses, you'll pay taxes on gains, but the 10% early withdrawal penalty will be waived.
  1. You decide how to invest.
  2. Any money you don't use for college will continue to compound until you retire.
  1. The maximum you can invest in a Roth this year is $5,000 or $6,000 if you're 50 or older.
  2. Modified AGI limits also apply.
  3. Diverting money from a Roth will reduce the amount available for your retirement.

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