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Knowledge Hub / When & How to Start a College Fund for Your Child
When & How to Start a College Fund for Your Child

When & How to Start a College Fund for Your Child

Paying for College
ELFI | April 27, 2021
When & How to Start a College Fund for Your Child

Thinking about your child’s future can be exciting but it may also cause worry when you think of the costs associated with it. Considering starting a college fund for your child is a great first step.  The average cost of college for the 2020-2021 school year was $26,820 for full-time in-state students at public universities and $54,880 for private universities. With these high costs it’s no surprise that many students use student loans to cover the costs.  The average student loan debt carried by new graduates for the class of 2020 is $37,693. With all the costs, it’s not uncommon to see parents paying for college for their students, or at least a portion of the costs. Because of the benefits of going to college, job opportunities and higher earning potential, some families also consider starting a college fund for a baby.

When to Start Saving for College 

The ideal time to start saving for a child’s college education is as soon as possible. Starting a college fund for a baby gives the money the most time to compound. Parents should set savings goals and include a monthly contribution in their budget if possible to help stay disciplined in achieving the goals.  However, parents that are not on track to meet their own financial goals may consider waiting to start a college fund. Before starting a college fund, parents should consider these financial milestones:

If you want to begin saving a college fund before accomplishing these goals, consider beginning with small contributions and increasing them as your budget allows.

Best Ways to Start a College Fund for Parents & Guardians

The first step to decide how to start a college fund is to decide how much you will save. The amount you want to save can help determine which account is better for you, since some accounts limit how much can be saved per year.  A parent or guardian can also open multiple accounts for each child to take advantage of different savings limits, tax benefits and account features. With each account, there are different rules, income limits, tax benefits and tax consequences, so be sure to keep an eye out for these.  Whichever account you decide to use, starting a college fund for your child is a great way to start their financial future off so they may graduate with little to no debt. Here are some accounts to consider when starting a college fund for your baby.

529 College Savings Plan

There are many options available when you are trying to decide how to start a college fund. One common savings plan is a 529 plan. A 529 plan is named for the IRS section that allows an account to be set up and grow tax free to pay for the qualified education expenses of the beneficiary.  States offer 529 plans, and you do not always have to be a resident of a state to take advantage of the plan, although there may be state tax benefits for residents. There are two types of 529 plans:

If you are wondering how to start a 529 college fund, here are some things to keep in mind:

Here are a few pros and cons of 529 College Savings Plans: Pros

Cons:

Coverdell Education Savings Account (ESA) or Education IRA

A Coverdell Education Savings Account, also known as an Education IRA, is an account that allows you to invest in options including stocks, bonds and mutual funds to cover educational expenses.  The money can be used for tuition, mandatory fees and required books and supplies in college or private school for kindergarten through 12th grade. With this type of account, you can contribute post-tax money up to $2,000 per year per child if income guidelines are met. Funds can be withdrawn tax-free for qualifying expenses. Pros:

Cons:

Uniform Transfer (UTMA) or Gift to Minors Act (UGMA)

If you are considering saving money for a child to use after college, you may be interested in opening a UTMA or UGMA account. These accounts allow an adult to be in charge of the assets until the child reaches either the age of 18 or 21, depending on the account.  These accounts can hold investments like stocks, mutual funds and bonds. One important distinction between UTMA and UGMA accounts is that UTMA accounts often accept assets aside from typical financial investments, for example, real estate. Since these accounts are not specifically for college savings, the money can be used however the child chooses once they reach the age of majority. Pros:

Cons:

Individual Retirement Account (IRA)

When you begin to think about starting a college fund, a retirement account may not be the first option that comes to mind. But in some cases, IRAs and ROTH IRAs allow a person to withdraw funds for qualified college expenses without the 10% penalty for early withdrawals.  The owner of the account can use the funds for their own education, their spouse’s education, children or grandchildren. There is an important distinction to note between using money from an IRA and ROTH IRA. If the money is withdrawn from a traditional IRA, income taxes will be owed since IRA’s are funded with pre-tax money.  Money withdrawn from a ROTH IRA has already been taxed, so taxes are only due when the ROTH IRA is less than five years old and contributions and earnings are being withdrawn. In these cases, taxes will be due on the earnings withdrawn.  Pros:

Cons:

Learn More: Using a Roth IRA to Pay for College

College Savings Tips for Future Students

No matter what methods a parent uses to save for college, it is beneficial to teach your student about the power of smart money management. Students can save for college in a variety of ways, including:

Make Up the Difference With Student Loans

With the rising costs of college, it can be challenging to cover every expense. If your student needs an extra financial boost, student loans may be an option to cover extraneous expenses.  ELFI offers private student loans to help students pay for school, with affordable rates and flexible terms.* You also won’t have to pay an application fee or an origination fee, so you can focus your efforts on important college costs.