For parents, deciding how much to save for retirement versus what to set aside for a child’s education can be a difficult balancing act. Saving for your future should be a priority, particularly through maximizing the benefits of retirement plans. But, although paying yourself first is essential, that doesn’t mean you can’t set funds aside to further a child’s education. A college savings plan is a tax-advantaged way to achieve this goal. The following information is intended to help you understand how these savings vehicles can help you meet the present and future needs of your family.
Why Prioritize Retirement Savings?
To answer this question, two financial planning components should be compared: funding sources and cost variability.
Funding sources. Where will you get the money to pay for your retirement? For most retirees, social security and personal savings represent the main sources of income. The limited number of funding options highlights the importance of personal savings. Without placing a focus on saving throughout your adult life, you may jeopardize the security of your retirement.
Students, on the other hand, can obtain college funding from a number of widely available sources. If family resources (such as a college savings account) aren’t available, students can seek financial aid, federally guaranteed student loans, grants, and scholarships. These vehicles have unique benefits and tradeoffs, but they can be expected to provide accessible options for paying for college.
Cost variability. Educational expenses are much more variable than retirement costs. Although inflation drives up both types of expenses over the years, students have a wide range of pricing options. They can take advantage of the large cost differences between public versus private universities and in-state versus out-of-state institutions. Online degrees can also be considered.
Retirees won’t have the same flexibility without making sacrifices to their desired lifestyle, especially regarding housing and leisure activities. Health care costs, which typically rise in the retirement years, are difficult to control. All in all, given the unpredictability of retirement expenses, you may face some challenging choices in the future if you don’t have sufficient savings.
The reality. Once you leave the workforce, your financial options may be limited. In contrast, your family should be able to combine a variety of funding sources to pay for college. So, while you may relish the idea of fully funding a child’s education, doing so might not be the wise choice.
Balancing Savings Needs
Fortunately, the advantages of retirement plans and college savings plans make it possible to balance your financial priorities. Let’s look at some of the unique features of these plans.
Retirement plans. Putting the maximum possible into your retirement accounts is ideal, especially if your employer offers a matching contribution. That can add up to a substantial amount of extra income. In addition to the tax-deferral benefits, an IRA or 401(k) account can work well to complement your college savings goals in the following ways:
College savings plans. A college savings plan is a great way to save and pay for college. What type is best? That depends on your situation, but 529 plans are popular for many reasons, including the following:
You’ll also want to consider the impact of 529 plans on student financial aid. Often, it’s minimal. Here are some details to keep in mind:
Finally, you should be aware that if you withdraw 529 funds for anything other than qualified expenses, the distributions could be subject to tax on the account’s gains, as well as a 10 percent penalty.
Achieving the Right Balance
By putting money aside wisely, it’s possible for parents to help provide for their children’s education without compromising a comfortable retirement lifestyle for themselves. For further guidance on this complex topic, I am at your service.
The fees, expenses, and features of 529 plans can vary from state to state. 529 plans involve investment risk, including the possible loss of funds. There is no guarantee that a college-funding goal will be met. In order to be federally tax-free, earnings must be used to pay for qualified higher education expenses. The earnings portion of a nonqualified withdrawal will be subject to ordinary income tax at the recipient’s marginal rate and subject to a 10-percent penalty. By investing in a plan outside your state of residence, you may lose any state tax benefits. 529 plans are subject to enrollment, maintenance, and administration/management fees and expenses.
This material has been provided for general informational purposes only and does not constitute either tax or legal advice. Although we go to great lengths to make sure our information is accurate and useful, we recommend you consult a tax preparer, professional tax advisor, or lawyer.
© Copyright 2020 | Shamrock Wealth Management | All Rights Reserved