College Savings Quandry

[Chrissy]

My husband and I have 1 child with plans for another shortly.  Both our mothers had their college paid for by our grandparents, we had our college paid by our folks, and we're committed to continuing the tradition.  We're sitting on $35k in excess cash (seriously, ALL the tax-advantaged accounts are maxed, and the EF and short-term goals are fully funded).  We will probably add $25k to that in 2017, $25k in 2018, and $5k in 2019, for a total of $90k.  At the end of 2019, we may semi-retire, so, while we would probably still save money, we wouldn't save it in a 529. 

I could put this $90k into taxable investments and/or into a 529 plan.  Our state's 529 has a tax-deductible contribution max of $20k/yr.  I'm having trouble figuring out what's best; I've thought over every scenario so much that my eyes are just crazy pinwheels.  Should I open a 529 for my daughter, max it for 2 years, then do the same for Baby #2 for two years?  Each account would have $40k, which, @ 6% would grow into $100k in 16 years.  Is that a nutty huge amount, or does it just feel that way because I'm in 2016 looking at 2032 money?  We'd rather under-save in the 529(s) than over-save.  Will I regret front-loading the accounts if we decide to keep working?

Should I put all the money into my daughter's name, and switch the beneficiary to Kid #2 halfway through?  Or, since the intent is to under-save in the 529, just use it all for her, and pull Kid #2's college costs from our other accounts?

I feel like I need a crystal ball...

[firelight]

We went through the same questions last year. We put 10k last year in my kids 529. Plan was to put 10k every year for five years (50k) and then let it grow.

However, we read more about 529 rules and decided it was not worth it for us to put any more money in 529 ( except the 10k already der). Instead we'll just use our Roth IRAs if needed. This would keep the money flexible and we can avoid penalties.

Well probably put 10k for any future children (just to keep things even) but that's about it. While we want to pay for our kids college, we also don't want them to slack off because they have 100k in their name for education. I'd rather that they work hard and come up with scholarships and us to fill the rest from the family coffers.

Also if kids decide to study outside US or not go to college at all or drop out to do something else, we'd rather give them seed money from our Roth IRAs instead of paying penalties to get the money that we put in.

[csprof]

My husband and I have 1 child with plans for another shortly.  Both our mothers had their college paid for by our grandparents, we had our college paid by our folks, and we're committed to continuing the tradition.  We're sitting on $35k in excess cash (seriously, ALL the tax-advantaged accounts are maxed, and the EF and short-term goals are fully funded).  We will probably add $25k to that in 2017, $25k in 2018, and $5k in 2019, for a total of $90k.  At the end of 2019, we may semi-retire, so, while we would probably still save money, we wouldn't save it in a 529. 

I could put this $90k into taxable investments and/or into a 529 plan.  Our state's 529 has a tax-deductible contribution max of $20k/yr.  I'm having trouble figuring out what's best; I've thought over every scenario so much that my eyes are just crazy pinwheels.  Should I open a 529 for my daughter, max it for 2 years, then do the same for Baby #2 for two years?  Each account would have $40k, which, @ 6% would grow into $100k in 16 years.  Is that a nutty huge amount, or does it just feel that way because I'm in 2016 looking at 2032 money?  We'd rather under-save in the 529(s) than over-save.  Will I regret front-loading the accounts if we decide to keep working?

Should I put all the money into my daughter's name, and switch the beneficiary to Kid #2 halfway through?  Or, since the intent is to under-save in the 529, just use it all for her, and pull Kid #2's college costs from our other accounts?

I feel like I need a crystal ball...

529 sounds right. 
(a)  Yes, split it across the two accounts, primarily for social reasons:  You'll never have to deal with the issue of fairness and who gets to draw from it, since they're obviously separate accounts.  (Even though you, as the owner, control everything that happens with it and can spread it out as you wish.  grin.)

(b)  $40k invested now for college in 17 years isn't crazy at all if you're going to pay retail at a private college.  Heck - $90k invested as a one-shot investment for a newborn is likely to *not* cover 4 years of tuition at a private college by the time they get there.  So I wouldn't worry about the 40k.  The 529 funds can pay for room & board also, which will be well over $1k / month by 2032, even at reasonable places.  That eats up half of your $100k right there, ignoring the painful growth in tuition.

(c)  Don't overthink it.  The only game you need to worry about if you kept working is if you live in a state with a progressive *state* income tax rate AND your state deducts 529 contributions (as yours does), *and* you think your earnings will be substantially higher in the future and you'll benefit more from that deduction.  If you're in VT, this might be an issue, but most other places, it's probably not a concern.  CA, bless its hideously high state tax rate, does not allow a 529 deduction. :)

(d)  If you're not depending on having that money for your own use, then, really, don't overthink it.  If your kids don't spend it all, it can go to *their* kids, and you've passed on a nice gift to the next generation that's somewhat biased in ways that prevent it from turning them into entitled brats.  And worst case, the penalties for taking it out aren't that bad after you factor in the tax-free growth during the time it was growing.  It's a little bit worse than having invested it in your taxable account, but only marginally so.

[mxt0133]

If you are intent on paying for your children's college education I would recommend you educate yourself on Expected Family Contribution (EFC) rules.  Colleges use this amount to calculate financial aid packages for each student.  Parent's assets are used when calculating how much a parent should be responsible for.  Each asset class has different weights and some don't count at all.  For example parental income and investments have the highest weight, then college savings such as 529k.  Other assets are not included at all such as primary home and retirement accounts.

Since both of you plan to semi-retire might be you can control your income in the year before and during your children start college to lower you EFC as much as possible. 

For your particular situation even though your state has tax-deductible contributions, it might still make sense to put your funds in growth investments given the time period until you will need to withdraw.  If you semi-retire you might be able to withdraw those funds without paying long-term capital gains if you are within the 15% tax bracket.  This is just as good as a 529 account.  Because it will be in your taxable accounts it will have a greater weight when computing EFC so it would be better if you just put it a 529 account to begin with. 

However, if you know you will have low earning years, you can continue to max out tax sheltered accounts, 401k, tIRA, Roth IRAs, HSAs, ect while living of your taxable accounts.  The goal is to lower your taxable income and assets the years your kids are in college.

If your low earning years still puts you over the 15% tax bracket, then just shove everything in a 529k and call it a day.  Even if you over fund it, there are ways to get it with out the penalty, such as taking one class and using the funds to pay for your apartment, school supplies such as computer, ect.  Or even use it for graduate school for them.

[Dee18]

My father funded a 529 for my daughter before his death.  He made it large enough to cover 4 years of tuition and dorm at a state university.  My daughter earned a full tuition scholarship.  The 529 is being used to pay her room and board and books.  Beyond that, she is allowed, under the rules, to withdraw up to the amount of her scholarship penalty free from the 529 each year. I let her take out 5,000 last year (1/8 of her scholarship) It is taxable income to her, but she actually paid none because of her low income.  She us using the money to pay for a month long study abroad program, gas for the car she inherited, and other miscellaneous expenses throughout the year. one advantage of the 529 for me was that it was the budget for college.  There was pressure from her high school counselor and peers to go to the most prestigious school she could get into, without regard to cost, but I kept pointing out the ( generous) budget.

One of my close friends and her husband "designated" an IRA to be their son's college fund.  They divorced a few years before son started college.  The husband lost his job due to downsizing and drained the fund in an effort to prevent foreclosure on the house.  Had the money been in a 529, this would have been tax fraud and I don't think he would have done it.

Every semester I take a few minutes to talk about how proud my Dad would be to see how well my daughter is doing in school.  It has been fascinating to see how she feels connected to him through this college fund.

[teen persuasion]

If you are intent on paying for your children's college education I would recommend you educate yourself on Expected Family Contribution (EFC) rules.  Colleges use this amount to calculate financial aid packages for each student.  Parent's assets are used when calculating how much a parent should be responsible for.  Each asset class has different weights and some don't count at all.  For example parental income and investments have the highest weight, then college savings such as 529k.  Other assets are not included at all such as primary home and retirement accounts.

Since both of you plan to semi-retire might be you can control your income in the year before and during your children start college to lower you EFC as much as possible. 

For your particular situation even though your state has tax-deductible contributions, it might still make sense to put your funds in growth investments given the time period until you will need to withdraw.  If you semi-retire you might be able to withdraw those funds without paying long-term capital gains if you are within the 15% tax bracket.  This is just as good as a 529 account.  Because it will be in your taxable accounts it will have a greater weight when computing EFC so it would be better if you just put it a 529 account to begin with. 

However, if you know you will have low earning years, you can continue to max out tax sheltered accounts, 401k, tIRA, Roth IRAs, HSAs, ect while living of your taxable accounts.  The goal is to lower your taxable income and assets the years your kids are in college.

If your low earning years still puts you over the 15% tax bracket, then just shove everything in a 529k and call it a day.  Even if you over fund it, there are ways to get it with out the penalty, such as taking one class and using the funds to pay for your apartment, school supplies such as computer, ect.  Or even use it for graduate school for them.

I just checked on how 529 accounts are treated on the FAFSA.  If the student has to report parent info, all 529 accounts are included in the parents' investments, even those accounts for a different student.  So they are treated no differently than taxable accounts.

I'm a parent of 5 kids - 2 are thorough college, one attending, one going in the fall.  DD1's annual college cost was over $50k when she graduated in 2012, just to give you some perspective on costs.  With our family size, and relatively low income, we've been able to effectively manage college OOP costs with scholarships, grants,  work study, federal loans, TAP, PELL, etc.  I looked into 529 accounts, but ultimately decided they were not useful for us.

In addition to a PP's advice to research the FAFSA formulas and rules, I'd advise you to research the college tax credit/deductions available.  To be eligible for these, qualified college expenses must be paid from sources other than a 529 or a scholarship/grant/etc.

Of course, I've watched the FAFSA rules and charts change over the years since DD1 started college in 2008, and I keep a close eye on future changes for DS4 and DS5 who is 11.  The savings protection amount has dropped dramatically, becoming nearly nonexistent.  The FAFSA definition of income does not play nice with Mustachian plans for Roth ladders.  And our shrinking family (at home) size means DS5 will be effectively an only child when we do the FAFSA for him, completely changing the aid landscape compared to his siblings.  Lots of gotchas to plan for.

[Chrissy]

Thanks for the input, everyone.  Mulling and doing more research now.  Leaning toward putting in $20k this year, since it really can't hurt anything.

[Lucky Girl]

One more thing to consider, as you are likely in a pretty high tax bracket at this point (thought may be much lower in the future).  We are putting the college funds in the 529 because it is helping us avoid some capital gains tax on dividends.  Even though we reinvest all our dividends in taxable accounts, we still end up paying between $750-$1,500 per year in taxes on dividends right now, due to high income and AMT, and some other crazy compensation situations going on.  If this is your situation, 529 may benefit you just by keeping a little more money away from the tax collector!