Provided By Matt Harlow, CFA, Chief Investment Officer at Larson Financial Group
As seen in St. Louis Medical News
For many parents, providing a better future for your children is of the utmost importance. A college education is still an effective way for young adults to pursue their passion and get ahead in life. By funding their college education, you’re helping lay some groundwork for your children to make a successful transition into adulthood by minimizing the need to carry student loan debt.
Currently, the cost of higher education is consistently rising. In fact, College Board statistics show that over the past 30 years the average annual increase for college tuition is 3% to 5% above the rate of inflation. This can make projecting the amount to save for college difficult. This problem may be alleviated by performing some due diligence.
How Much Should Be Funded?
As a physician, there is a chance your family won’t be eligible for any need-based financial aid from the government or a university due to a high net income. It falls on you to decide what savings methods to utilize while weighing factors that can impact education costs. For example, the difference between public and private tuition can be substantial, so you need to plan accordingly.
The appropriate amount to save is different for every family depending on your circumstances, values and the needs of your child. Some families target a set dollar amount that they’d like to put aside for their child’s educational needs which allows for flexibility when it comes to controlling cost. If the cost of college ends up being less than the amount saved, the child may be able to apply the excess funds towards graduate school.
Other families take a set-savings approach where they designate a certain amount of their monthly or annual discretionary income towards funding education expenses. Some or all of this money may go into a tax-advantaged account, and whatever accumulates is the financial assistance provided by the parents. You can typically increase or decrease the amount diverted to these accounts as cash flow permits.
In addition to tuition and room and board, students will need about $3,000 to $5,000 throughout the school year. This extra money is needed for books, additional meals, laundry, cell phone, travel home, a computer, a printer and various other expenses. You can proactively develop a college spending plan by listing each category of expense and targeting a total dollar amount they’ll expect to need annually. If you won’t be providing a monthly allowance, make sure your child has a sense of how much money they will need to earn over the summer or in part-time jobs during school.
Once you’ve determined how much of their education you want to cover, the next step is to decide which investment methods are the best fit for your situation. Conventional wisdom may suggest that you take an “age-based” approach to saving for college. However, our experience has shown that age-based portfolios many times offer less opportunity to meet the goals you’ve set for your children’s education fund. For many situations, simply using a conservative portfolio during the entire funding and accumulation period prior to your child attending college often outperforms the conventional wisdom.
It may be an option to spend any savings you have accumulated in non-retirement accounts. For example, if you are planning to sell stock to fund you child’s education expenses, you may consider gifting that stock to the student because they’ll typically pay a lower capital gains tax when they sell it. As a result, appreciated assets transferred to students often yield more than the same amount of appreciated assets sold by a parent. Also, consider cashing in any savings bonds you and your child may own. They usually have low interest rates, and savings bonds purchased after 1989 are tax-advantaged if used to pay for education expenses.
Unlike retirement accounts, which usually have more time to recover in the event of a bumpy stretch in the market, education funds are typically exhausted within a few years once distributions begin. Meaning, you’re taking a comparable amount of risk without as much opportunity for reward. This is why we prefer analyzing your retirement portfolio separately from your education portfolio, and often have separate investment strategies for each.
You’re encouraged to speak with a financial advisor familiar with the factors that are unique to your family’s situation before taking action. The important thing to remember is that education planning should be reconciled with your own financial independence needs. Generally, you should avoid taking a loan from your 401(k) plan for your child’s education. These loans typically need to be paid off when changing jobs, and unpaid 401(k) loan balances are treated as taxable withdrawals.
The information presented is for informational purposes only, and is not to be construed as legal, tax advice, or otherwise. The material is based on information believed to be reliable but is not guaranteed. Before making any important financial, legal or tax decision, it is always recommended to seek advice of a qualified representative who can address how this relates to your own personal and specific situation.
Advisory Services offered through Larson Financial Group, LLC, a Registered Investment Advisor. Securities offered through Larson Financial Securities, LLC, Member FINRA/SIPC. Tax services offered through MedTax, an affiliated company.