Whenever I begin a financial planning engagement with a family, we first discuss the “Big Picture” so we have a clear understanding of where they stand and where they want to be. Obviously, the main components of that “Big Picture” usually center on investments, careers (and income), retirement planning, taxes, insurance coverage, etc. Many people walk in the door with some knowledge of each of these components. But what I’ve found interesting is the lack of awareness as it relates to the details of their “portfolio” for college savings, usually found in 529 accounts. It’s almost like these accounts are not showing up on their bank, 401(k) or brokerage company website so they’re kind of an afterthought. In addition, most families are usually putting “something” away in these accounts without really knowing what they’re investing in, how much it’s costing them (in fees) and whether the amount they’re saving is even accurate.
This is why a “college savings” strategy meeting is now one of my core meetings with clients. Not only is this topic usually cited as major goal but given the complexities and the rapidly dynamic circumstances around college savings, I find it pays to be vigilant about this topic for those clients with aspirations of higher education for their children.
So below I’ve taken the approach of first providing “course descriptions” on the core classes every family should take when saving for college (think 100 and 200-level courses from back-in-the-day at the old university). Then I describe the “upper level” course descriptions for those seeking to “major” in college savings. (Don’t sweat it too much – they are all Pass/Fail) I cover all these courses with my clients as this serves as the foundation for establishing a savings strategy that makes sense and most importantly, integrates with the “Big Picture”.
College Savings – The Intro Courses
Retirement Savings vs. College Savings (SAV 101): This course delves into the trade-off between saving your hard earned dollars for retirement or for the kids’ college funds. We examine the psychological “guilt trap” some parents find themselves entangled and assure parents that retirement should be the first priority and college savings second. The rule-of-thumb we typically apply is that kids can usually borrow money to attend college (and use other strategies) but parents can’t borrow for retirement funds.
How Much Should your Child Contribute? (SAV 102): This is a more subjective examination of just how much your children should contribute to their own college funding and touches on goal setting and the personal aspects of parenting. In this course, we describe how it might make more sense for kids to take on some level of debt and even supplement the tuition expense by getting a job before and during their college years. The basic tenet here is ensuring our kids have “skin in the game” and don’t view their time at the university as a four-year (or five, or six) party.
Lowering the “price” of College (SAV 201): As college costs have skyrocketed in recent years, we need to address ways to lower these costs. This can be done in a variety of ways including taking courses for college credit while still in high school (if possible), going to community college for one or two years, taking courses during the summer at community colleges, living at home, etc. In addition, we could be in the early stages of a “game changer” as on-line courses and on-line degrees are becoming more and more prevalent. This could introduce a significant competitive threat to the strangle-hold the ivory tower universities hold today.
Fundamentals of 529s (SAV 202): This course walks through the financial aspects of 529s. We describe how 529s are like Roth IRAs for college costs (i.e. after tax contributions and tax free growth). In addition, we talk about the tax deductibility, portability and touch on the estate planning aspects.
College Savings – The Advanced Courses
529 Investment Options (SAV 301): In this course, we dig into the investment options within 529 plans and how to best utilize these funds. As noted earlier, many families take a “set-it-and-forget-it” approach to putting away money for college. However, I would argue these folks are doing themselves a disservice as it relates to asset allocation and investment fees. Specifically, families need to view college savings from a risk-adjusted perspective. By that I mean they must take more risk early on (to try to attain more growth) and less risk as the student approaches freshman year of college as captured in many “age-based” funds. However, I believe parents might be better served to allocate assets themselves, in-line with broader market conditions. In addition, many funds can charge exorbitant fees, thereby killing future returns. Fortunately, many 529 plans also offer low-cost offerings which almost always should be utilized.
Whole Life Insurance for College Savings? (SAV 401): In this course, we discuss the idea pitched by “college planning” firms of using whole life insurance to save for college. While I am not an insurance specialist (or salesman), the research I have done on this topic leads me to think whole life is not the optimal way to save for college. We will talk about the disadvantages of up-front commissions, on-going fees, limited investment options and inflexibility which far outweigh the supposed advantages of removing assets from consideration for financial aid. In short, using permanent insurance is usually pitched as an idea to “move assets” outside of consideration for the EFC (expected family contribution) used for financial aid calculations. Said differently, insurance isn’t considered in the balance sheet and a family could qualify for more financial aid. However, I’ve found the EFC impact for assets is limited and is much more heavily weighted toward income. So while this strategy might make work for low income and high asset families, for most others it probably doesn’t make sense.
529 Tax Advantages vs. Flexibility – The Account Type Conundrum (SAV 402): As a follow on to the core course Retirement Savings vs. College Savings (SAV 101), this advanced course examines the advantages and disadvantages of going “all-in” with 529 accounts. Specifically, we look at the alternative of taking a measured approach to allocating some percentage of college savings to 529s and some to other investment accounts. The rationale is that with constantly changing expectations for expenses can a family really know how much they’ll need for education expenses? And if they don’t know, will they really want to take the risk of “trapping” such a large balance of funds in 529 accounts?
To wrap up: While this curriculum serves as a good start, we all know that circumstances change quickly so the strategy is constantly in flux and needs to be adjusted on an annual basis. Not only do students’ status change through the years (good grades, bad grades, scholarship opportunities, career preferences, etc.) but more importantly the family’s “Big Picture” also has moving parts (careers, inheritance, etc.) that must be factored in to the holistic financial plan. The point is that a substantial goal like college savings is not an isolated financial topic. To the contrary, college savings is a major factor that must be integrated with plans for retirement, near term cash flow, tax liability, insurance coverage and even estate planning.