529 college savings plans: What you should know
A few weeks ago during our show on college and student debt we had a segment on 529s. Those are the college savings plans named after the tax code. We got a lot of follow-up questions after it aired and we invited Kimberly Lankford back to answer them. She contributes to Kiplinger’s Personal Finance.
A few listeners wrote in to ask what the better way to save for college is — 529 or a Roth IRA?
“Both of them can be good ways to save for college. The Roth definitely has some benefits because it can do double duty. So if you’re kind of struggling to find enough money to save for both college and retirement or if you’re not sure if your kids are going to go college or not, a Roth is a good way to save. I mean, the money goes in after tax, but can be used tax-free for retirement. But they key thing for college is that you can access your contributions — tax- and penalty-free — at any age. So you have to be 59.5 to be able to get those earnings tax-free. But when your kids are in college, that could be a good time to withdraw some of that money tax and penalty free that you’ve put in. Just those contributions,” says Lankford.
Lankford says the problem with a Roth is that you can only invest up to $5,500 a year currently or $6,500 if you’re 50-plus. So you don’t have a lot of money getting those benefits. She says if you do have enough money to be able to save in both a Roth and a 529, you’ll get extra benefits from that.
“The 529 let’s you save tax-deferred. You can use the money tax-free for college costs and in about two-thirds of the states you get a state income tax deductions for your contributions, which you don’t get with a Roth IRA,” says Lankford.
If you know that your child is going to college, Lankford says you should first take a look at what the 529 tax break is, what the income tax deduction is for your state. If it’s a really valuable state tax deduction, you might want to go with the 529 plan. But if you’re juggling trying to save for college and retirement, a Roth IRA might be your best option. Her advice: try to invest up to the tax deduction for the 529 and then consider the Roth IRA.
Advice on 529s and other college savings plans Breaking down the pros and cons of college savings plans
A listener also wrote to us from Facebook wondering whether you should open more than one account for each kid or have one big account for everyone. Lankford says there are different philosophies, but she believes it’s generally better to have separate accounts for each child — especially if they are several years apart in age.
“As the child gets closer to college age, you’re going to want to gradually shift that money to be more conservative. For the kids that are younger, you can keep that money more aggressively invested — more stock funds versus fixed-income funds at that point, and gradually shift it. If you have a whole bunch of kids all lumped into one account, it’s really hard to know how to adjust that money,” says Lankford.
She says you want to make sure that you’re not paying separate fees for each account that you open up. She says you should really take a look at how fees are assessed for the particular account you’re looking at and make sure you’re not being penalized for having a bunch of different accounts.
“The other good this is you can always make changes. So if you do end up contributing more money to one account than another — or if you just end up having it all-in-one account to begin with and then realize you want to shift some to a younger child — you can either change the beneficiary on that account or you can open a new account and transfer some of the money from the first account to the second one,” says Lankford. “Also check on any fees that your 529 may assess for that, too. But it really is not that hard to shift the money from one child to another or one family member to another.”
Lankford also answered a question from Colleen, who’s preparing to send multiple children to college. She’s been putting money into a 529 over the past few years. Her son will head off to college soon, and she’s doubled the contribution. She’s wondering if she’s doing the right thing.
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