As parents — whether current or prospective — we all want the best for our children. We hope to give them better opportunities than we had earlier in life than we had them and we want them to grow up and surpass us in life.
Imagine the pride Archie Manning feels to know he has two sons who are Superbowl-winning NFL quarterbacks! Of course you and I may not be professional athletes, but we all want to create a legacy through our children.
You have dreams and aspirations for your children and you’re probably thinking about what you can do today to help them better prepare for tomorrow. Often times, you may be so focused on your children’s financial future, you neglect your own.
To give your kids a bright financial future, take care of your financial future FIRST.
One of most common financial planning mistakes people make is putting your kids’ financial future ahead of your own. It seems selfless to put $1,000 towards your baby’s college education, but if you haven’t set money aside for retirement, your adult children will have to worry about a lot more than student loans — they’ll be taking care of you!
Talk about saving and set a good example.
The next best thing you can do for your children’s financial future is to set a good example by saving, giving them a small allowance, and encouraging them to save it. Use a future expense, like a toy or even a Disney vacation, and talk about how you’ll set aside money from every paycheck until you have enough to pay for the item.
Finally, make sure you take time to talk about earning money and explaining that even though we use credit and debit cards to magically pay for everything, money isn’t limitless.
When other priorities are covered, save for your kids.
It may be straightforward to save for a trip to Disney, but how can you plan for the biggest expense a parent faces: College?
There are a few options available to you that don’t require taking out a second mortgage, which unfortunately, many parents do. It’s not smart to bank on the fact your kid will get a scholarship and that everything will be taken care of. Even if they do manage to snag one, oftentimes it’s only enough to pay for part of school and almost certainly won’t pay for anything at the graduate level.
Again, we don’t recommend saving for your kids’ college before saving for your own retirement, but if you have money left over after meeting your retirement savings goals, starting a savings plan now can have a big impact on your child’s life later on.
A 529 plan is a tax-advantaged savings account used for higher educational expenses. It can come in two varieties: a pre-paid tuition plan, or a college savings plan. Every state offers at least one option, although many offer both.
The pre-paid tuition 529 allows you to purchase one of several plan options that locks in tuition costs so that all you need to do is pay a flat monthly rate. Plan options may include just tuition, or can be more comprehensive adding on books or even room and board. This means that you don’t have to worry about the rising expense of college however, the monthly fee for each plan type increases incrementally with the child’s age. The best option is to sign up as soon as the child is born to lock in the lowest rates possible.
The college savings plan operates much like a 401(k) with the exception of being used for college rather than retirement. Unlike pre-paid plans, it can be used by anyone at any time and covers all qualified education related expenses. The savings plan comes with several mutual fund options to choose from so you can determine what level of risk you are willing to take.
The Coverdell Education Savings Account is another type of tax-deferred savings account used for education expenses with a few key differences. Contributions are limited to $2,000 per year for a beneficiary and can only be done by an individual whose modified adjusted gross income for the year is less than $110,000. The main advantage of the Coverdell is that it is not restricted to college expenses, but may be used for elementary or secondary school costs as well including items such as school uniforms and transportation.
While usually overlooked in favor of the 529, custodial accounts opened under the Uniform Transfers to Minors Act might be a good option for parents who don’t need to worry about financial aid programs. The account takes advantage of the “kiddie tax” which basically states that transferred assets are taxed at the minor’s tax bracket instead of the beneficiaries. This eases the gifting of money or securities to a minor without incurring large negative tax consequences. Investment income earned in the account may be sheltered as well. Up to $850 can go untaxed, while the next $850 will be taxed at the minors’ tax bracket. Anything above $1,700 however, is subject to taxation at the custodians’ tax bracket.
Keep in mind that investing in any of the above accounts doesn’t mean that you can’t invest in another. It is possible to fund both a 529 and a UTMA account for your child or even a combination of all three. If you’re curious about the future cost of college, you can check out this calculator which allows you to select specific colleges and predict the results.