Tuesday, June 27, 2006

Day 127 - Investing for College 101

Today's Tip - Think about all your options when investing for college

If you're like me, investing for your child's future doesn't just mean socking money away for college. It means money for weddings, for graduations, etc. etc. So I had to look at all the options open to me in the U.S. for investing. So here are some basic tips and info you can use to understand what's available to you and to form a base strategy.

Step 1 - Write down your goals

Knowing where you want to go will help you get there. Do you want money for just college, or for other expenses? Is it important that your child have money if they want to go to school out of state? Do you want your child to have control of the money once their 18?

Step 2 - Investigate the different types of investments

Here are some of the plans available to you and their pros and cons.

  • 529 Plan - Lets money you invest today grow tax free. Once you take it out, however, you have to use it on qualified school expenses (tuition, fees, etc.) or take a 10% or so penalty plus pay taxes. And, depending on your state, you might not be able to use your money at out of state colleges
  • Coverdell (ESA) plans - Lets you invest today and your money grows tax free. While there aren't restrictions on what state, the benefits you get depend on lots of restrictions and what tax bracket you are in. Also, the child gets control of the account once they get to school.
  • Prepaid tuition - Lets you pay for tomorrow's college tuition at today's prices. You'll protect yourself from inflation and get a real deal on college expenses, but once you put in the money, you have to use it at an in-state public college. If you put all your money in this and your child doesn't want to go to a public university in-state, you're stuck.
  • Custodial - Lets you invest on your child's behalf, and the money grows essentially tax-free because it's based on your child's income (they don't have any until 16, when a large portion of your investment growth is done). You can then use the money for whatever you want. You can either give over control of the account when the child turns 18 or 21. (This is what I chose for investing)
  • Regular investing - You invest your money, get to use it for whatever you want, keep control forever, but you pay taxes on your growth. And that can severely hurt your earnings by a third over the long run

Step 3 - Diversify your portfolio

A good portfolio has a mix of international and domestic funds, and a good mix of income, growth and income, growth and aggressive income type funds. The exact mix you have depends on how much time you have left before you'll start withdrawing from the fund.

  • 10+ years to withdrawal - Your portfolio should be more aggressive because you have more time for the large gains to offset any large losses you have by being more risky
  • 5-10 years to withdrawal - Your protfolio should be easily balanced, still risky enough to grow, but it has a stable base that will grow at a steady rate
  • Less than 5 years to withdrawal - Your portfolio should become more conservative and stable as you want the assets you've accumulated to not drastically decrease because the market turns down. Slow, steady growth should be your goal.

Step 4 - Buy the funds

Lastly, choose the funds you want. Depending on your investment saavy, you can do the research and investing yourself. Pick no load funds with a long track record of growth. If you aren't comfortable enough to do it yourself, you can go with a financial advisor you trust. He should take care of most things for you and guide you to good decisions, but there are no guarantees and you will be paying a fee out of the gate, so you'll have less money to work with. It all depends on your comfort level.

Good luck!

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Blogger mbutler said...

I have found an avenue to help with regular contributions as well. I am registered with Upromise.com, which is a rewards program that collects contributions from retailers you purchase products from and then puts those contributions in a qualified 529 plan. Upromise has contributed approximately $2,500 to my son's 529 plan over the last three or four years.

12:11 PM  

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