Funding the College Dream

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Fall 2012

From game-day parties and lecture hall classes to life lessons learned, there are many reasons to be passionate about college. But finding and funding the right university can be difficult. It requires proper planning and preparation to find the perfect fit for your student.

At least 91 percent of high net worth individuals with children under 18 say funding college is a major goal, according to a survey by The Phoenix Company Inc., a life insurance and annuity company. Yet, only 23 percent say they’ve achieved their college financing objectives.


While planning ahead is a crucial component of saving for college, “you don’t need to liquidate your assets to save for college,” says Sally Mullen, Chief Fiduciary Officer of U.S. Bank Wealth Management.


“There are many savings vehicles that allow contributions.”


One gentleman in Iowa is taking advantage of 529 college savings plans for each of his 19 grandchildren, says Iowa State Treasurer Michael Fitzgerald, Chairman of the College Savings Plans Network (CSPN), a nonprofit association for administrators of state-sponsored college savings plans. Every December, he puts $2,975 — the maximum tax-deductible contribution under Iowa’s plan — in each of the 19 accounts. He’s using 529 savings plans that offer a variety of age-based asset allocation, a portfolio of stock or bond options that become more fiscally conservative as the beneficiary nears college age. “This is how he gives his grandkids their inheritance, so they can have a college education,” Fitzgerald says. “You hear stories like this all across the country. It’s something grandparents can feel really good about.”


“You don’t need to liquidate your assets to save for college. There are many savings vehicles that allow contributions.”
— Sally Mullen, Chief Fiduciary Officer of U.S. Bank Wealth Management



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Fall 2012

Leveraging a 529 plan or other savings vehicles isn’t just satisfying, it may be smart. According to the College Board’s 2011 Trends in College Pricing report, college tuition during the past decade has increased by an average of 5.6 percent per year at four-year public colleges and universities, and 2.6 percent per year at four-year private institutions. At those growth rates, the College Board estimates that a child born in 2010 will pay $23,750 a year in tuition and fees at a public university and $85,200 a year at a private university when he or she starts college in 2028.


Before You Pay for College


No matter your income, the case for thoughtful planning with your family and your goals in mind is clear. “The best time to start planning for a child’s education is the day they’re born,” advises Fitzgerald, who says economic uncertainty may make college planning critical for families of all means. “You don’t know what’s going to happen tomorrow or 10 years from now. There are a lot of wealthy folks who lost much of their wealth after what happened in 2008. Even if you don’t lose it, you may still want your children and grandchildren to potentially benefit down the road, and one of the best ways to have them benefit is to give them an education.” Fortunately, there are myriad options to help parents and grandparents save for college.

Here are a few options to consider:


1. Custodial Accounts

In states that have adopted either the Uniform Gifts to Minors Act (UGMA) or the Uniform Transfers to Minors Act (UTMA), adults can transfer assets to a minor without establishing a trust or naming a legal guardian. Parents, grandparents, aunts, uncles or even family friends can establish and contribute to a custodial account in a minor’s name. By doing so, they can help children save for college while also potentially reducing the value of the donor’s taxable estate.


These accounts are attractive because of their favorable treatment of investment earnings: Although principal contributions in excess of the annual gifting limit — $13,000 — are subject to gift tax, earnings are tax-free up to $850 a year, a rate that will not likely change in the near future.


Mullen notes that the money doesn’t have to be used for college. “Technically, the money is considered an asset of the child,” she says. “Once the child reaches the age of majority in their state, they control the money and can do whatever they want with it. There’s no assurance that it will be used for educational expenses.”

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Fall 2012

2. 529 Plans

Named after section 529 of the Internal Revenue Code, these “qualified tuition plans” can help families save for qualified higher education costs. There are two types of 529 plans: a prepaid option, which allows you to prepay tuition at eligible public and private colleges and universities based on today’s tuition rates, or the savings account variety, which is more commonly used and allows you to save money in a tax-deferred account (earnings only) to be used to pay for qualified education expenses at future tuition rates. The idea behind either option is that investment earnings may potentially grow to help meet the higher costs of future education.


Either way, 529 savings plans are one of the top college savings plans in the United States: Of the 65 percent of parents saving for college, 24 percent have a 529 plan, according to the College Savings Foundation’s 2011-2012 State of College Savings Survey of 843 parents with various income levels.

529 plans are sponsored by individual states and administered by investment companies that oversee the underlying investments. They allow participants to invest contributions, mostly in mutual funds for potential long-term growth — similar to a 401(k) plan that’s used for college instead of retirement. “529 plans offer great incentives over other ways of investing,” Fitzgerald says. For instance, 529 plans offer:

  • Tax-free earnings: Investment income accumulates tax-free. Plus, qualified withdrawals — distributions made for educational purposes including tuition, books, and room and board — are exempt from federal taxes. On non-qualified withdrawals, only investment income is taxable. Additionally, if you invest in your own state’s plan, you might qualify for a deduction on your state income taxes. But before investing in a 529 plan, consider your state of residence; some states offer a 529 plan with state tax or other benefits available only to residents of the state.
  • Gift-tax benefits: 529 plans are subject to the annual gifting limit of $13,000 that is not subject to change any time soon. However, participants can gift up to five years in advance. As a result, you can put up to $65,000 in a 529 plan as a single contribution, but nothing in the four subsequent years, which allows a larger principal more time to potentially grow. There are potential ramifications if the giftor passes away after providing a lump sum but before the five-year window expires.
  • Generous contribution limits: Lifetime contribution limits vary by state but often exceed $200,000 per beneficiary, including earnings. Plus, plans typically have no income restrictions.
  • Account control: Parents or grandparents who invest in 529 plans retain control and can easily change the beneficiary. If the child for whom the account is created gets a scholarship or doesn’t opt for college, the assets can be transferred to another person’s 529 account. However, there may be withdrawal penalties and tax implications if the money isn’t used for college.
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Fall 2012

3. Trusts

For high net worth families, long-term trust funds are another college savings option. Although they lack the tax advantages of a 529 plan, they allow higher lifetime contributions — especially in 2012 because of a temporarily high threshold on lifetime gift tax exemptions.


By the Numbers



“Until the end of the year, an individual can gift up to $5.12 million without any gift or potential estate tax,” Mullen explains. Unless Congress acts, she says, the lifetime gift tax threshold likely will drop to $1 million in 2013. “This is an historic opportunity to aggressively gift to family members or other individuals. Now is the time to consider establishing an irrevocable trust vehicle for the family’s benefit that could provide income and/or principal to family members as needed to cover educational expenses.”


The chief disadvantage of a trust is its cost and complexity, as creating one generally requires hiring an attorney and establishing detailed criteria for principal income distributions.

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Fall 2012

4. Options for Families With Older Children

Investment vehicles like 529 plans and trusts may be appropriate for families with younger children, as contributions should have ample time to potentially grow before the child reaches college age. Families with older children have choices as well.


“You do have some options, even if your children are close to starting college,” Mullen says. For families with teenagers, one option is potentially funding a Roth IRA for the child. “Although your child has to earn some income in order to be eligible, the child doesn’t have to put their money in the account, the parents or grandparents can make the deposit — up to $5,000 a year — and the contributions can come out at any time for any reason, including college, without tax implications,” Mullen says.

Be sure to talk to your financial planner about the potential advantages and disadvantages of a Roth IRA.


Whichever college savings vehicle you use, Mullen recommends looking at it as an investment in family. “One client paid for the college tuition for each of her seven grandchildren,” she recalls. “It’s been a tremendous benefit for the family, and it’s also brought them closer together.”


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Financial Planning