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Saving for college can be difficult and hard to budget for most young parents. Even if you can find money to put away or have grandparents who want to help, it’s hard to know how much you should save now to fund an expense that could be 18 years away.
What does four years of college cost?
Currently, the annual cost of a four-year college in Colorado is about $22,116. This includes tuition, fees, books, and living expenses. That makes the total cost for a four-year program about $88,464. Your newborn baby will not be attending college for about 18 years. Over that period of time, the costs are expected to increase by about 4 percent per year. So in 18 years college will cost a whopping $190,254.
How in the world can you ever save that much money? Should you skip saving and just pay when the time comes? Here are some options to decide what is best for you and your family.
529 College Savings Account
A 529 College Savings Account is a tax advantaged savings account. In Colorado, you can deduct your contributions from your state taxable-income saving yourself 5 percent right out of the gate. The investment earnings in the account are non-taxable so they grow faster. If you use the proceeds to pay for college expenses then the withdrawals are tax-free. All your earnings go toward funding college and none to taxes.
How much to contribute to the 529 College Saving Account
Say the investments will earn an average 6 percent tax-free over the next 18 years. How much should you contribute each month? The monthly contribution comes to $398.00. If you could put away $398 every month that earns 6 percent, after 18 years you would have the necessary funds to pay for a four-year college. That is a lot of money. Most parents don’t have that kind of money to save for their child’s education. To make it easier, think of $398 per month as a goal. Save what you can now and increase the contributions later. Start with a reasonable commitment and then consider increasing the amount when you get a raise. Ask relatives to contribute to the college fund rather than buy expensive toys at birthdays and special occasions and channel any unexpected funds from inheritances or gifts into the college account.
It’s helpful to remember that you probably didn’t get a free ride in college so there is no reason to expect that you should fully fund your child’s education either. Even a partial funding of their college education will be a big help so every dollar you save gets them further along.
Pay Later with Student Loans
If nobody saved for college and just thought that they could get student loans to fund their degree, what would it cost them? This is a similar to finding the total cost of taking out a loan for a car or home. The compounding of interest payments on the loan generates eye-popping total costs.
If your child took on the entire burden of their college costs, roughly $180,000 over four years, what would be the total cost in student loans?
Borrowing $180,000 and paying off the loan over 20 years at the current student loan interest rate of 4.29 percent would require a monthly payment of $1,118.47. The total cost of the loan would be 240 monthly payments totaling $268,432. This clearly demonstrated the burden of carrying student loans. Interest adds that extra amount that needs to be earned to pay them off. No wonder so many of us consider our student loan debt as our largest financial burden.
Save If You Can Afford It.
Saving for college in anticipation of the expenses reverses the financial mathematics and sets the compounding in your favor. Compare saving $398 per month now with the burden of your child spending almost $1,100 per month in student loan payments. If you compare the totals, it’s a question of putting away $81,648 now or paying back $268,432 later.
This example ignores the state tax relief that we get here in Colorado. If you save through the Colorado 529 College Savings program, you can reduce your state income by the amount of the contribution and save 5 percent on Colorado state taxes. Your out of pocket cost would drop to $378 per month.
The burden of putting money away in a college savings account may seem overwhelming now but the benefit for your child will be monumental when they reach college. Look at the ratios, for every $1 that I put away now my child is relieved of $3.29 of student loan repayments. Any amount that you can save will greatly reduce the costs and will keep your child from being burdened with huge student loan payments that they will work most of their lives just to repay . The benefits of compounding interest on your savings now easily overpower the cost of repaying student loans later.