I Want to Open an Account to Save for College

Alden Wicker
Posted

So you want to start saving up for your child’s education. Well, it’s not as easy as opening a savings account! But it is better than a savings account, because it’s an investment account that allows your money to grow.

Savings accounts, as of 2012, will only give you a return of 1% a year at the very best. With inflation at about 3%, if you stash your money in a savings account for 18 years, it will be worth less than when you put it in! But if you make a conservative assumption that your investments will grow at 7% a year on average, your money will grow much faster than inflation. Meaning you don’t have to put away the full amount of tuition, just a portion. By the time your child is ready for college, it will have grown into a tidy sum.

Picking the right college savings plan (there are 80+ to choose from) may seem daunting. But your child will thank you for your work when you tell them they can afford their dream college. And with the help of our checklist, you’ll know exactly how to choose and open the best college savings account for you and your kid’s future.

Know your plan options.

First, you need to know what the best plan is for your situation. We’ve got an overview here, and you can read the full details on these plans in our 101:

  • A 529 Savings Plan is a type of state-administered investment account that gives you tax benefits for saving for child’s college education. It’s available regardless of your income level and contribution limits are high, up to $360,000 total, depending on the state.
  • A prepaid plan is a form of a 529 that is becoming less common. It probably makes the most sense if you believe your child will attend an in-state public college, because it pegs the payout to the current price of in-state tuition.
  • A Coverdell account differs from a 529 investment plan in that you can use it for primary and secondary education as well as college, the contribution limits are low–$2,000 a year–and there are income limits. For these reasons, it’s more limited than a 529 and best for those who want to use it to pay for a private K-12 education in addition to college.

If you still have questions, remember to check out all the details in our 101. 

Check if your home state offers a plan.

The majority of plans come with state-tax benefits, and you can search by state here. For investors who live in states without a state tax or tax benefits, check out Morningstar.com or Savingforcollege.com to search for out-of-state plans that would be available to you based on the state where you reside. Once you’ve narrowed down the plans that look best to you, move on to the next step.

Find out the plans’ past investment returns.

Call the company directly or visit Morningstar.com to see the average returns. (Many plans offer target-date funds that automatically rebalance into safer investments as your child nears college age. This is an ideal investment tool for someone who prefers a guided investment program.) While past performance can be a good indicator of future returns, keep in mind that it does not guarantee them.

Look for these characteristics in a plan:

  • High maximums and low minimums for contributions, meaning you don’t need to contribute a huge amount at a time if you don’t have the means, but you can also contribute a lot if you want to.
  • The ability to use the account for all qualified higher-education expenses including graduate school, whether billed directly by the institution or not.
  • The ability to make non-penalty rollovers to other states’ 529 plans.
  • The ability to make partial withdrawals without having to close the account.
  • Easy deposit and withdrawal procedures.

Investigate the fees.

Do the fees associated with your state account options negate any tax benefits you’re being offered? As a general rule of thumb, if a plan charges more than 1% in fees, you can probably find a better one.

Make sure the plan offers a range of investments and assets.

Your investments should be diversified, covering different sectors of the market such as large-cap, mid-cap, small-cap, emerging markets, etc. Find out more about diversification and your personal risk tolerance.

Look for good customer service.

A good plan will offer thorough and complete program materials with ample use of legal counsel, call centers or program offices staffed by people knowledgeable and enthusiastic about 529 plans, as well as a well-designed website providing access to program materials.

Open the account and start funding it.

Once you choose the best account for your needs, you might have to fill out an online or paper application and send it in before the account is opened. During that process you can choose how you wish to contribute: either through payroll deductions or through automatic transfers from your bank account.

Periodically check in.

Some funds will automatically rebalance the asset allocation as you get closer to using the money for college. That means as your child gets older, the investments will become more conservative to protect the money you’ve invested. Even so, you should still review the account at least once a year to see how it’s doing, check if you’re saving enough and rebalance it if you’ve elected for a plan that gives you more control over investment options.