Saving for a Child’s Education

As parents in a large city with all that has been happening around us during the pandemic, it is easy to overlook many aspects of our lives as we focus on the day to day. Safeguarding the financial future of your family through financial planning is one of those things that is easily overlooked or put off. Financial planning for your family, however, can increase security and reduce anxiety and have a profound impact on your family’s future and well-being.

There are numerous steps you can take to help set your children for a successful financial future. The average cost of raising a child today from infancy to age 17, excluding college and higher education expenses, is approximately $275,000 based on inflation adjusted U.S. Department of Agriculture estimates.

Education costs are one of the highest expenses you will face as a parent. Published in-state tuition and fees at public four-year universities averaged $10,740 during the 2021-22 school year, compared with $38,070 at four-year, private nonprofit universities. The average cost of college tuition and fees at public 4-year institutions has risen approximately 180% over the last 20 years.

By electing to save for your child’s education in a tax-advantaged 529 investment account, you can prepare children for college or graduate school tuition. This account allows your money to compound over time if appropriately invested, and you don’t have to pay taxes on the earnings if the money is used for qualifying education expenses. Grandparents can also contribute to a 529 plan.

Custodial Accounts

There are two types of custodial accounts that are most commonly referred to as the Uniform Transfers to Minors Act (UTMA) and the Uniform Gifts to Minors Act (UGMA). These accounts can allow parents and/or grandparents to start investing for a child today. A UTMA or UGMA account is similar to a brokerage or taxable investment account for minor children.

Since children are not eligible to directly own property, UTMA accounts allow parents and grandparents to invest for a child’s future. You have access to a very wide range of investment options — unlike 529 plans, which may have limited options. These accounts are a good, flexible option for parents who want their children’s money to grow but don’t want to restrict the funds specifically to education-related expenses.

A custodial Roth IRA is another type of investment account to consider. This account is just like a regular Roth IRA, but is intended for a minor child earning income. Your child needs to have earned at least the amount you contribute from a W2 or 1099 job in the year you make the contributions.

Tax Credit

The child and dependent care credit is a tax credit that may help you pay for the care of eligible children (and other dependents) for qualifying expenses. The credit is calculated based on your income and a percentage of expenses that you incur for the care of qualifying persons to enable you to go to work, look for work, or attend school. For tax year 2022, the amount of eligible dependent care expenses is $3,000 for one eligible person and $6,000 for two or more eligible persons. The credit is not refundable and the maximum credit rate is 35%.

A flexible spending account (FSA) is another option to think about that can be used to help take care of your dependents. This is an employer-sponsored program that allows you to set aside up to $5,000 per year tax-free for qualified childcare expenses for couples filing jointly with one or more dependents.

You can use the dependent care FSA to pay for eligible Pre-K childcare expenses tax-free including nursery school, pre-school, or similar programs below the level of kindergarten. Expenses to attend kindergarten or a higher grade aren’t eligible FSA expenses, but childcare, expenses for before- or after-school care of a child in kindergarten or a higher grade up to age 13 are eligible. A potential drawback is that the IRS requires money contributed to a FSA to be spent during the plan year. If the money isn’t used, it’s forfeited.

Wills and Trusts

Planning for the care of children in case of unfortunate circumstances is one of the most important things parents can do. Estate planning could mean the difference between stability and chaos for bereaved children. Wills and trusts are important because they help inform your family how you want your assets distributed when you die. An essential part of a will, if you have minor children or children with special needs (regardless of age), is to appoint a guardian. If you do not appoint a guardian, the court will appoint one for you, who may or may not be to your liking.

In certain instances, a special needs trust may be prudent. A special needs trust is a document you create to provide for a beneficiary who has a disability, chronic illness, or injury and relies on government assistance. A special needs trust helps to improve a disabled individual’s life by increasing the longevity of funds using government benefits. It also pays for expenses that are not otherwise covered by government assistance.

Life and disability insurance also need to be evaluated properly with respect to your children’s needs. Life insurance can pay for the things you’d like your family to have, such as a paid-off mortgage, school tuition, or other significant expenses. Life insurance can help protect your growing family by making sure financial resources are available to them if you’re no longer there and can provide peace of mind for your partner and loved ones.

All of these are strategies that can help you plan for the future and safeguard your child’s well-being. Taking many of these steps can help provide peace of mind knowing that your children will grow up financially secure. Saving money to secure your child’s future can help give them the advantage they need to succeed in life.

David Rosenstrock, CFP® is the Director and Founder of Wharton Wealth Planning, LLC (www.whartonwealthplanning.com). He earned his MBA from the Wharton Business School and B.S. in economics from Cornell University. He is also a CERTIFIED FINANCIAL PLANNER™. David lives in Manhattan with his wife and their two very active children.