I’ll never forget it.
I was 18 years young during the Spring semester of my Senior year and the cost of college was looming on the horizon. My mom, like many moms, encouraged me to apply for as many scholarships as I could within the span of a few months.
For one scholarship in particular, my application was accepted and I was given a chance to interview with a six-person panel. I knew that I was competing with 50 other applicants, so I had to bring my A game.
Ahead of the interview, I printed out individual copies of my resume for each of the panelists and put it into a personalized folder with each persons’ name on it. (weird flex, but okay)
As I walked into the interview, I was so focused on my sweaty palms shaking hands and saying my name clearly that I immediately forgot who-was-who. I did my best to match up the names on the folders with the people standing in front of me based solely on appearance.
Miraculously, I went 5 for 5 before turning to the last gentlemen, looking down at my last folder and sharing my confused observation:
Me: “I see that Dana couldn’t make it today?”
Un-amused gentleman: “I’m Dana.”
Me: (slowly nodding) “Of course you are! Why wouldn’t you be?!”
I didn’t get the scholarship.
Enter, Student Loans
The statistics are staggering.
Among the Class of 2018, 69% of college students took out student loans and graduated with an average debt of $29,800. 17.5% graduated with more than $50,000 in student loan debt and 6% graduated with more than $100,000.
While these graduates expect to earn around $60,000 per year upon graduation, the actual average starting salary is closer to $48,000 (which even itself feels a little high to me).
It’s no surprise that 11.4% of these graduates are delinquent and haven’t made a payment in 90+ days.
There’s also the camp of about 900,000 folks who are still holding out hope thinking they’ll qualify for loan forgiveness through the government. Unfortunately for this eligible pool of borrowers, 49,669 applications have been submitted for loan forgiveness thus far and only 423 applications have been approved (.85% approval rate). Of that, only 206 borrowers have had their loans forgiven. So, good luck with that.
I hate to say this, but things will likely get worse before they get better because college isn’t getting any cheaper. In fact, tuition costs generally increase at 2x the level of inflation. Estimating average increases of 6-8% each year would lead to the cost of tuition doubling every 9 years.
In other words, your newborn baby will likely owe more than $100,000 when they graduate college two decades from now – unless you plan appropriately.
Enter, 529 Plans
As depressing as the statistics are, a college education is still a sound investment as college graduates out-earn high school graduates by about 80% when comparing weekly earnings ($1173 vs $712) and by more than $900,000 over the course of their careers.
Trends show a college education becoming increasingly important and a prerequisite for most jobs; so, don’t for a second think, “you know what? Maybe little Liam, Noah or Aiden [insert trendy baby name] won’t go to college.”
If they drop out of Harvard to become a Tech Startup CEO, then having too much money set aside for college and not needing it seems like a great 1st world problem to have.
What is a 529 Plan?
A 529 plan is a tax-advantaged account designated for education-related expenses and it’s one of the most popular ways to save for college. It’s similar to a Roth IRA in that you’re contributing after-tax money, your gains will grow tax-free and you won’t pay taxes on qualified expenses when you take it out. Conversely, if you were to put this money into a savings account or brokerage account for the same purpose, you would have to pay taxes on your gains – so it’s a nice benefit. Qualified expenses include tuition and fees, books, supplies, computers and related equipment, and some room and board at any eligible colleges or universities. If you happen to need the money or end up not using it for educational expenses, you’ll have to pay a 10% penalty.
For those of you considering Private school for young Billy; beginning in 2018, you can withdraw up to $10,000 per year tax-free for elementary and high school tuition. While this may seem attractive at first, I think this benefit is largely overrated (and more of a political effort to promote school choice) because the tax-free benefit is minimized the earlier you withdraw the money. For example, if you invest $5,000 today and withdraw it in 3 years for Private elementary school, has it really grown that much? In this scenario, it’s probably best to cash flow the early years to allow time the account balances to grow and take advantage of a bigger benefit later.
When does it make sense to open a 529 Plan?
The most obvious time to think of opening a 529 plan is as soon as you have a baby, but this is premature for many people (considering that the average American lives paycheck to paycheck and can’t afford a $400 unexpected expense). While I love long-term planning, it doesn’t make sense to set aside money for an expense that will come in 18 years while you’re still paying for expenses from yesterday. For that reason, I wouldn’t open a 529 plan until you’ve paid off all non-mortgage debt, built up a large cash cushion and are investing heavily towards retirement.
More specifically, here’s where I think opening a 529 plan falls in the order of operations:
- Save 1 paycheck
- Payoff credit cards
- Invest in 401(k) up to your employer’s match
- Increase savings to 3 months of expenses
- Payoff low interest debt (student loans, car loan)
- Save for a house or other large, upcoming expenses
- Invest in a Roth IRA
- Max out 401(k)
- Open 529 Plan
- Payoff mortgage
As you can see, your financial house should be in pretty good order before you’re ready to open 529 plan – unless the account is being funded by someone else’s money (more on this in a minute).
How to Open a 529 Plan
Nearly every state has their own 529 plan and you’re able to invest in any state’s plan that you want. You’re not limited to the state that you live in or the state of the college your child wants to attend. Some states offer tax deductions, so be sure to view your state’s treatment.
If you favor simplicity, it’s easiest to default to your own state’s 529 plan. If your goal is to maximize returns and/or minimize expenses, there are a few states that stand out from the rest.
Popular 529 Plans
- New York (NY Saves)
- Nevada (NV 529)
- Utah (my529)
- Virginia (Virginia529)
You can enroll directly in each state’s program or you may be able to invest through your online brokerage (i.e. Vanguard, Fidelity, Merrill, Wealthfront).
Here’s how I personally set ours up:
- I setup an account directly with the state that I live in.
- I am the Account Owner. My oldest child is the Beneficiary on the first account and my youngest child is the Beneficiary of the second account.
- Both accounts are invested in low cost, highly diversified Vanguard funds that are fairly aggressive given a 15-18 year time horizon. There’s also an age-based option that automatically becomes more conservative as your child approaches college age.
2019 529 Plan Contribution Limits
An individual can contribute up to $15,000 each year and anyone can add to a 529 Plan. Most sites make it very easy to print a contribution form for grandparents or other relatives.
For wealthy families focused on estate planning and advanced wealth transfer strategies, individuals can legally make a one-time accelerated transfer up to $75,000 ($150,000 for a married couple) per beneficiary which basically covers contributions for the next 5 years.
If you’re looking for more information about 529 Plans, the resource that I have found to be most helpful is SavingforCollege.com.
