Laboring for Tax Deductions
Ben Franklin once said, "If you think education is expensive, try ignorance." Today, parents everywhere are heeding the great statesman's advice as they educate themselves about saving for their children's tuition expenses. Here are ten tips on funding a college education from the California Society of CPAs.
- To meet your college fund goals, estimate costs. The amount you need to save depends on a number of factors such as whether your child will attend a private or public school, how fast college costs continue to grow, and whether you are eligible for financial aid. Although no one can say what tuition will be in 10 or 20 years, online calculators, such as those found at www.money.com and www.kiplinger.com, can help project future costs based on today's prices.
- The earlier you start saving, the better. If you start saving when your child is an infant, the amount you need to save each month will be far less than if you wait until your child is 10 or 12. And with a longer time frame, your investments have more time to benefit from compounding.
- Regular systematic savings ‹ even of small amounts ‹ add up. Once you know how much you will need, you should determine the amount you must save each month to reach your goal. The key to successfully saving for college or achieving other financial goals is to make saving a part of your budget. Each time your income goes up, increase the amount you contribute to your child's college fund.
- Your child's age and your tolerance for risk determine your investment strategy. At least 10 years before your child starts college, CPAs typically recommend that you keep most or all of your college savings investments in stocks and stock funds. As your child grows older, you should move your money into bonds or cash equivalents such as CDs, money market funds, and U.S. Treasury bonds.
- It's not always a good idea to save in a child's name. Under formulas used to determine financial need, parents are expected to contribute 5.6% of their assets annually to their child's education, while students are expected to contribute 35%. As a result, funds in a child's name can have a negative impact on your chances of qualifying for financial aid.
- Federal tax credits can cut the cost of college. There are two types of education tax credits. One is the HOPE Scholarship tax credit, which can cut your taxes by up to $1,500 a year per student for tuition paid during the first two years of college. The other is the Lifetime Learning Credit, equal to 20% of the first $5,000 of qualified tuition and fee payments. Each credit is subject to an income-based phase out. You can't claim both credits in the same year for the same student, but keep in mind that unlike deductions and adjustments which are subtracted from your income, credits are subtracted directly from the taxes you would otherwise owe.
- You don't have to save the entire cost. It certainly would be nice to have all the money needed for your child¹s education - but it's not always possible. The federal financial aid program includes subsidized loans for students who can prove financial need and unsubsidized loans for other students, as well as grants, and work-study programs in which students are given jobs, usually on campus. Other borrowing options include home equity loans and loans against retirement savings.
- With tax advantages and no income limits, Section 529 plans are the new way to save for college. These tax-deferred savings plans are similar to IRAs, but the funds in these plans are earmarked for tuition. Although you don't get a tax deduction on your investment, the money grows tax-deferred and future withdrawals are taxed at the student's presumably lower tax rate.
- community colleges can help cut the cost of a four-year degree. More and more students are realizing that they can spend the first two years at a community college, which is typically less expensive, and then transfer to a state college or university to finish their undergraduate studies.
- It's not a good idea to forgo funding your retirement in favor of saving for college. While financial aid, gifts, and current income can help finance a college education, the same resources may not be available for retirement. And since many colleges don't include money in retirement accounts when calculating the family's expected contribution, saving for retirement may actually help you qualify for financial aid.