Investing Money to Pay for College

Saving for college is only half the battle. The second half of the battle is maximizing your investment returns to make sure that your savings are transformed into enough money to cover all your college costs.
 

Once you’ve saved up the cash, here's where you might put it to get the best bang for your college tuition buck:

• Tax deductible methods: Parents may obtain certain tax advantages (both estate and income tax) from making gifts to college-bound kids. If you need to borrow money for college, you might want to think about using a home equity loan to pay the tuition bill. If all the requirements are met (primarily that the home is the principal residence and the loan is secured by the residence), the interest on up to $100,000 of a home equity loan is deductible for income tax purposes.
• A Roth IRA: Allows taxpayers, subject to certain income limits, to save for retirement while having the savings grow tax-free. Taxes are paid on contributions, but withdrawals, subject to certain rules, are not taxed at all.
• Education IRAs: Allows parents or guardians of children under 18 set up an education IRA to save for the child's college education. Deposits to an education IRA are not tax deductible, but the deposits and any earnings can be withdrawn without paying taxes or penalties as long as the money is put toward the child's higher education. Your investment returns aren't taxed, but your contributions are limited. While this might help pay for some college expenses if you start when your child is very young, it will never cover the cost of a four-year degree.
• Hope Scholarship Credit: A new tax credit of up to $1,500, based on qualified educational expenses for the first two tax years of post-secondary education. Lets you deduct 100 percent of the first $1,000 of qualified tuition and fees and 50 percent of the next $1,000, up to a maximum of $1,500 per year. The credit is phased out at certain income levels. Like the Education IRA, this credit by itself will not go very far towards financing a college education.
• State college savings (529) plans: State-sponsored programs designed to help parents finance education expenses, these are administered by certain investment companies and subject to contribution requirements and investment guidelines. Withdrawals from the account are taxed at the child's tax rate, and anyone can contribute to them regardless of their income level. In most cases, the money is invested in a portfolio of stocks, bonds, or mutual funds. Most states offer Section 529 plans. The proceeds can be used only for education withdrawals for non-educational purposes trigger taxes and a 10 percent penalty. The investment company administering the account will be in control of how the money is invested, and will charge an ongoing free for its services. While your contributions grow tax-free, if the money isn’t used for college, you will be assessed a penalty on your accumulated earnings. For more information, check out www.savingforcollege.com.
• Pre-paid tuition plans: Also known as Prepaid Education Arrangements (PEAs), pre-paid tuition plans allow families to buy all or part of a public in-state education at present-day prices. The value of the investment is guaranteed by the state to meet or exceed annual in-state public college tuition inflation (currently in the five to eight percent range). Plan costs can vary, depending on how close the student is to college. While this can be an attractive alternative when tuition is going up 10 percent per year, your child will only be able to attend one of the public colleges in your state. Also, if tuition increases level off, you might do better investing the cash independently.

If you’re hoping to make your money grow, the ideas we've discussed above just might do the trick. If your children are young, it's smart to be a little more aggressive in your investments. As your child grows, your investments should become more conservative to ensure the money will be there to cover your child's tuition, room and board. Without a doubt, giving your child a good college education will ultimately be one of the best investments you ever make.

NOTE: This column is distributed by Real Estate Matters Syndicate, PO Box 366, Glencoe, Illinois, 60022. This column may not be resold, reprinted, resyndicated or redistributed without written permission from the publisher.