• Margaret Curtis, MD

College Savings for the Overwhelmed

Updated: Oct 17, 2018

College savings is an example of “the perfect is the enemy of the good”. You can choose a plan and start funding it with minimal effort and get a good result. You can also do a lot of research, some math and come up with an optimal result. The difference is not enough to lose sleep over, and either way is better than not saving at all.

Here are my “good enough” and “overachiever” suggestions for college savings. I won’t call either “perfect” because I’m sure someone can come up with finer points that I missed. Obviously you should do your own due diligence and consider your own situation. This is merely the advice I would give a friend.

Good Enough

Use a 529 plan. 529 plans are like Roth retirement accounts: you pay tax on the money you put in but you don’t have to pay tax on the growth or when you withdraw the money. 529 plans are offered by each state (except Wyoming), but you can use any one you like. Some states offer incentives to residents such as state income tax deductions (so if you contribute $5000, for example, you can subtract $5000 from the income you pay state tax on), or matching grants (if you contribute $100, the state puts in $100).

1. To find a 529, go here.

  • Check your state plan. If your state offers state tax breaks with 529 contributions, choose that one.

  • If your state plan doesn’t have an incentive for residents, compare fees. A Vanguard fund (several states offer them) will have low fees.

2. Choose an age-based investment within the 529. 3. Put money in your plan. If your state gives you an income tax deduction, make sure to contribute at least that amount each year so you get the full deduction.

Vanguard has a nice college calculator. Don’t worry too much about overfunding (the money is still yours, and can be transferred to a different kid or a grandkid) or underfunding (by then you should have more disposable income and can pay for part of college out of that).

There. Now go apply your perfectionism somewhere else.

Overachiever: Choosing a fund: 529 plans change regularly as states compete with each other, so make sure to check most current information on each state’s 529 website. Some things to think about:

  • If your state offers incentives to residents such as a tax deduction or matching grant, it is probably your best choice. If you want to compare your state plan (with a tax deduction) and and another state’s lower priced fund, the math looks like this:

Income tax deduction x your marginal state tax rate = what you save on taxes Expense ratio (ER) x amount in account = what you pay in fees. [ER(your state) - ER (less expensive state)] x amount in account = how much more you will pay in fees using your state plan

For example: if your state allows you to deduct $5000 in 529 contributions and you are in your state's 25% tax bracket, you will save $1250 in taxes. If the ER for your state plan is 0.10, you will pay $500 annually: total savings $1250-500 = $750. If another state plan has an ER of 0.05, you will pay $250 annually but lose the tax deduction: total cost $250-1250 = $1000. You come out ahead using your state plan.

As the amount in the account grows, the amount you pay in fees will also grow. At some point you may reach a “tipping point”, when your tax savings are less than the extra fees you pay. In the above example, this would be when your total balance equals $25,000: in your state plan you saving $1250 in taxes but pay $2500 in fees: total cost $1250-2500 = $1250. In the other state plan you pay $1250 in fees. From then on, the lower-fee state plan wins.

At this point you might want to stop and open another 529 plan that has lower fees.

  • Check contribution minimums and make sure they are do-able for you.

  • Some states require you to use some or all of the fund by a certain date. If this is the case, you can roll it into another state’s fund prior to that date.

  • You can open as many 529s as you like, but this will add to your complexity. (My state doesn’t have a tax deduction but does have a small matching grant. Most of our college savings are in another state plan with lower fees, but I put just enough into our state plan each year to get the match. Free money is worth the added complexity, to me)

Investment options: once you have narrowed down the choices by fees, passively managed funds are probably your best bet. Age-based funds will automatically change asset allocation to be more conservative as the child gets closer to college. There are 529s that will let you invest more or less aggressively, even within age options. More in-depth information on 529s can be found here.

How much to save: even with a college cost calculator, there are lots of variables. Tuition increases, investment rates of return, which college your kid will end up going to, merit-based scholarships will all affect how much you end up paying. An article on funding college funds and a lively debate can be found on the White Coat Investor.

You now have a really excellent college savings plan.

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