Because of the SECURE Act, the 529 plan has received a functionality boost in 2020 and beyond.
A 529 plan can now be used for:
- All college tuition and qualified expenses
- $10,000 a year for K-12 tuition and qualified expenses
- Apprenticeship programs and qualified expenses
- $10,000 to pay down a qualified education loan repayment for each of a 529 plan beneficiary’s siblings
Given these benefits, if you have kids, contributing to a 529 plan makes even more sense. Always maximize the purpose of your money by taking advantage of any benefits the government throws our way. Goodness knows they tax us hard-working citizens enough!
After a strong 2019, I decided to take a look at my son’s 529 plan. Although it underperformed the S&P 500, it still reached a level that made me question whether it’s possible to contribute too much.
Perhaps you’re wondering the same thing.
Our 529 Plan Performance Review
After superfunding my son’s plan at the end of 2017 with $70,000, my wife contributed $45,000 between 2017-2019. My mother also contributed $30,000 between 2018-2019 for a combined total contribution of $146,500.
At the end of 2019, the 529 plan finished the year at $189,911.45. Therefore, $43,411.45 has been gained tax-free to pay for education-related expenses. Too bad 2018 was a down year. But still not bad for a little over two years of contributing.
Chart one shows the graphical representation of balances.
Chart two shows the month-by-month performance changes plus corresponding deposit amounts in 2019.
Chart three shows a YTD return of 22.71% versus a 31.49% return for the S&P 500 and an 8.72% for the US Aggregate Bond Index.
Because my son’s 529 plan is 100% invested in a target date fund, it has a stock and bond allocation of roughly 75%/25% that slowly gets more conservative by the time he’s 18.
At the time, a target date fund made sense. I didn’t want to spend any effort trying to actively manage his fund while trying to keep him alive as a first-time SAHD. Further, my own investment allocation was more conservative.
In retrospect, we chose an investment that was too conservative. But this is probably just greed talking.
Too Much In The 529 Plan
Our original goal was to create a 529 plan worth at least $500,000 after 18 years. Given college tuition has been compounding at a rate of ~5% a year for decades, a $50,000 annual tuition today will grow to $120,000 in 18 years. Then there is room, board, transportation, and other expenses to pay.
The X factor is whether our son can get into a good public grade school, thereby avoiding an additional annual expense of $25,000 – $50,000 for 13 years, when he starts kindergarten. Knowing our luck, he’ll probably get rejected by our local public schools. Therefore, it might be better if we try to shoot for accumulating $1,000,000 in the 529 plan.
The other X factor is his ability to get scholarships and having the wisdom to choose an affordable university. Knowing my wife and I are of average intelligence, we assume he will not get any academic scholarships either.
But it just seems so ridiculous to accumulate $1,000,000 in a 529 plan to pay for education. Personally, I’d much rather go to public school my entire life and at the end be handed a large check after college to go invest, buy a house, or start a business instead.
At a 5% compounded rate of return, our $189,900 529 plan will grow to $415,000 in sixteen years. If we average an annual contribution of $24,000 a year plus a 5% compounded rate of return, the plan will grow to $1,010,000 in the same time frame.
Now that we have a daughter, perhaps $1,000,000 really is the number to shoot for. Ugh.
Determining How Much To Contribute To A 529 Plan
If you contribute too much to a 529 plan, you are not efficiently allocating your limited resources. Every dollar you contribute to a 529 plan is one less dollar you can contribute to your own retirement savings, your house downpayment fund, and your around-the-world adventure with friends.
My assumption is that you’ve already opened up a 529 plan or plan to open one up because you like tax-free compounding growth and want to give your children more options in the future. My other assumption is that you are happy to pay for at least part of your child’s education.
Here are some things you should consider before contributing any more to your 529 plan.
1) Identify the current and historical cost of attending select institutions. Let’s say you want your daughter to attend The College of William & Mary or UC Berkeley, two public universities with excellent reputations at a great price. You should go to the respective schools’ websites and familiarize yourself with the current and historical costs of attendance.
Once you’ve calculated the historical compound growth rate, use that growth rate to make your assumption on how much the college will cost by the time your daughter is eligible to attend. Then calculate how much you will need to earn and contribute to get there.
Many Financial Samurai parents recommend accumulating enough to cover the costs of your in-state flagship school. I like this approach because it covers the bases and provides an important money topic of conversation when it comes time for your child to choose where to attend.
2) Make a realistic assessment of the number of kids you will have. One of the biggest reasons why I failed early retirement was because I didn’t account for having a second child at 42 years old for me and 39 years old for my wife. After years of trying, we thought we were done after one.
After the age of 40, a woman’s chance to naturally conceive drops to around 5% per try. Therefore, given we don’t want to go the IVF route, there’s a 95% chance we will only have to save and invest for two kids going forward.
But don’t worry. Even if you do beat the odds and are blessed with more children at an advanced age, you still have plenty of time to save and invest for your child’s future. It’s not like your expenses go from zero to thousands of dollars as soon as they are born.
3) Carefully observe the cognitive abilities and interests of your kids. Objectively observing your child’s attributes is almost impossible. Of course, you will think your baby is the cutest, smartest, best-looking, and kindest kid ever. But try hard to be objective by comparing the progress of your child to various milestones and examinations.
When it comes to your kids, you don’t want to suffer from Dunning-Krueger. If you do, you will give your kids a false sense of security that will be smashed to smithereens in the real world. Praise effort, not results.
Not everybody needs to or should go to college, let alone private grade school or private college. If your child dislikes learning about useless quadratic equations and would rather fix cars for a living, going to trade school is probably a much better move. Trade schools don’t take as long or cost as much as college. Therefore, you won’t have to save as much in your 529 plan.
Match your child’s education to his or her interests. Don’t assume your children will go to college.
4) Pay attention to 529 plan laws and politics. Even though the SECURE Act passed, none of us are exactly sure how we’ll be able to go about extracting our 529 funds to pay for things until we actually do. I fully expect to one day try and withdraw $100,000 and can’t because I lost my password and forgot to account for some random law.
There is also an increasing chance that within the next 20 years, many more Americans will be able to attend reputable colleges for free. If the bull market continues, the wealth gap will continue to widen. As a result, a socialist might get elected President and many more socialists may be elected to Congress.
Saving and investing heavily for your child’s future is a suboptimal strategy in a more socialist regime. Think about all those parents and students from Howard University who just missed a billionaire alumni’s generosity of paying off all student debt for a graduating class. Or imagine if a new President decides to cancel all student debt. Good for those with debt, but not so much for those who worked and saved to pay for their own education.
If capitalists are in power, you should save and invest as much as possible. If socialists come to power, however, you should try to relax more and take advantage of government programs such as income-driven repayment plans with forgiveness.
5) Make sure you are saving enough for your retirement. Regardless of who comes into power, it’s always a good idea to make sure you’re financially on the right track.
Achieving financial freedom is much harder for parents because we must not only save for our own retirement, but also take care of our parents and fund our children’s education. As a result, it is extremely hard to retire early with kids. Not only is there a tremendous cost associated with kids, but there is also a motivational fire that makes you want to keep on building wealth.
Your financial well-being should come first. After all, if you can’t take care of yourself, how can you possibly take care of a child? You must be able to max out your pre-tax retirement plans and build your taxable investment accounts. Counting on the government to save you is foolhardy.
Below is a chart from my Average Net Worth For The Above Average Married Couple post, which may help keep you on track.
Think about how much better society would be if every kid grew up in a financially stable household where parents were less stressed out about their finances and had more time to spend with their kids. Perhaps there would be fewer murderers, robbers, sociopaths, and bullies.
6) Use realistic return assumptions. Nobody knows how our 529 plan investments will perform over the coming years. But we do know that stocks tend to return between 8% – 11% on average, while bonds tend to return between 3% – 5% on average since 1926.
More recently, below is an annual return chart of a 60/40 (stock/bond) portfolio since 2009. Based on the data, a wise parent with a 60/40 portfolio would assume closer to a 5% – 6% compound annual return over the next 10 years when determining how much to contribute.
Below is another chart that highlights how strong the past decade was for investors. We should logically expect a down year or two this decade.
Changing 529 Plan Beneficiaries
If you save too much in your 529 plan, you can always change its beneficiary. Surely there is a relative with a child who could use some help.
Worst case, if you remove funds for non-qualified expenses, then you’ll pay a 10% penalty on your gains. You’ll also be subject to income taxes on the gains and may even have to pay back any state income tax deductions you previously claimed.
As for us, we plan to keep contributing at least $20,000 a year into our 529 plan because we haven’t reached our minimum limit of $500,000 yet. We also expect some market declines that will cause our 529 plan to lose money.
We don’t foresee a scenario where we will have hundreds of thousands of dollars left over in our 529 plan because we’ve done our calculations. But in case we are wrong, we hope to live long enough to change the beneficiary to our grandchildren.
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Readers, how do you determine whether you’ve saved too much or saved too little in your 529 plan? If you aren’t contributing to a 529 plan and have children, please share why.
How does Coronavirus impact your college saving goals? The education landscape is dramatically different now from when you made your post.
It’s the same. Don’t save too much and do the calculations. I wrote this post when I was aware of the coronavirus and I have been negative on college for years now.
My goal is to still save about $500,000 per child over 18 years. This is very different from saving $1 million per child, 10 years ago. How about you?
Great article! I’m surprised you don’t talk about municipal bonds as a tax advantaged investment vehicle. Everytime I research 529 funds, I end up asking myself “why invest in an account that only benefits if your child goes to college?”. I ofte wonder if I’m missing something here…
Related article posted on blog caniretireyet. The article and comments may be of interest to readers here too.
Cool. Everyone has a different way, and I admire Chris for encouraging his wife to continue working so he can stay retired.
I’m trying to encourage my wife to go back to work this year for not only money but healthcare subsidies, but I think it’s going to be a challenge.
Tips welcome!
Related: https://www.financialsamurai.com/how-to-convince-your-spouse-to-work-longer-so-you-can-retire-earlier/
Sam, I don’t think you are “over investing” in your 529s but if you really wanted another side-hustle you’d get your PhD and work for whatever expensive private school they go to for free tuition and then see if you can’t transfer to a university and get them free tuition there too. :)
The other thought is ROTC or a service academy. Serving your country is a good thing too whether it’s military or peace corps. My kid (just a junior in HS) is looking at going the Physician’s Assistant route and getting a direct commission in the USCG (pays about $90K out of school).
Do 20 years and get out with Tircare and a pension. If he can save a mere $1M during those 20 years he’ll be very FI with healthcare covered.
Hah! I actually looked into the PhD program in 2012 when o first left my job and decided I couldn’t hack it.
But good idea to work for a school in some capacity to get some subsidies.
I’ll second this. I currently work for a university. After working here for 4 years, they will pay 50% of my child’s tuition at the institution, or 30% at any other institution. Add on the great set of benefits, 403b, and it’s a great place to work.
Sam,
What are your thoughts on skipping the 529 and contributing to a ROTH for your child from 0 – 18 years old?
I understand to contribute to a ROTH the child needs earned income.
I have a business & I’m willing to go the “pay my kid to be a model for the business” route..
Here’s my math:
$5,500 contributed for 18 years at 6% interest.
99,000 in contributions at 18.
222,000 ending balance at 18.
We could pull out the 99K tax and penalty free for college and they’d have a 123K head start on their retirement plan…
222,000 – 99,000 = 123,000
If they don’t contribute AT ALL from 18 years old to 60 years old..
That 222,000 will turn into 1.5MM at 6%..or 3.1MM at 8%
Do share where you are guaranteed to get 6% to 8% for 18 years.
I didn’t read him to say it was guaranteed at all. Just a commonly used range. For that matter, if one can’t average 6% in the market, one’s 529 isn’t likely to get 6%, either.
I’d be more worried about a future Congress deciding to fund ramped-up IRS audits on potentially shammy kiddie Roths, among other things.
In this scenario, do you issue your kid a 1099 each year? Do you need also to show that hiring a similarly inexperienced model would be worth $6K a year?
Unless you are already contributing the max to all of your retirement accounts, you could forgo the 529 plan and save within your own retirement plan. There’s ways to access some of your Roth money before 59½ if you need it before then
Opening A Roth IRA for a child is a no brainer. It’s a great way to get them to work and appreciate money. It’s a great business expense if you have a business. And it is also tax free income if they make less than $12,000 a year.
Are there ways to do this if you don’t own your own business, and the child is too young to do any gigs like babysitting, dog walking, etc (e.g. under 5)? Obviously you can wait until they are, but it would be great to start at birth if there’s a way to do it.
Also looking into 529 plans, can you comment on which state is best to open a 529 plan with? Which one did you choose and why? I also live in the SF bay area but not sure if a California plan is the best to choose.
Thanks in advance!
AJ
NY Saves 529. Good plans and the lowest or second lowest (flat) expense ratio. California residents have no in-state benefit. Modeling a normalized return, the expense ratio difference was about $9k on an $100k investment over 18 years…
Agree. Clark Howard rates the 529s available in all 50 states and puts NY’s in the “Dean’s List” (top bracket).
Also in his Dean’s list besides NY (alpha order): AZ CA DE IL MA MI NH NM NV OH UT.
You can find the complete listing with details at his website. Can’t post links here but it’s just
clark
(dot)
com
I don’t think it is a right or wrong answer on this one. I want to share our story. We saved up to cover the cost for an in-state public university (tuition & fees) for both two kids. In the Midwest that mounts to $50K in total. We told the kids early that if they wanted to do something more exotic they had to get the scholarships for it. Oldest got scholarships to make up the difference to go out of state. The youngest went to the State U. Both are getting degrees at good state schools not any top tier institutions. If you are a good student at a state school there are ample ways to make money. Oldest, a junior, works in three different labs with three professors and is a teaching assistant. He works at least 20-30 hrs. per week of work relevant to his studies. With well paid summer internships he has about $1,500-2,000 in spending money per month. Youngest kid’s lab fees in the pilot program took us by surprise. However, when he is sophomore he will be finished with his professional pilot requirements and work for the university as a pilot instructor for the freshmen students. The university pays $45 per hr. and they typically works 10-15 hrs. per week.
It helps getting through college without getting in debt, but we wanted to balance that with ensuring that our kids had motivation to work as well.
I have been a professor at four different universities. At all institutions we are working hard to motivate students to apply for scholarships. However, many (i guess the majority) of the students don’t bother applying since parents take care of all financial needs in college. At the two last public institutions I have worked at we had more scholarships to give out then applicants.
The university pays a sophomore $93,600 annualized to teach freshman?! No wonder college is so expensive. I got to get on the university gravy train!
As a natural saver I do find that over saving is a problem. It doesn’t matter if it is for a 529 plan or a retirement account.
But I’m reminded of an advice someone gave me some time back. He said (paraphrasing here) why worry about the future when there isn’t even enough for the present.
So I got to my 529 plan number recently and have decided to scale back my contribution. While I can always put more money in, I want to focus now on juicing up my current cash flow to live a better life in the present.
We deposited $160K in 529K for our only kid 10 years ago when he’s only 6, now it’s only grown to $200K, had we simply kept them in S&P, it’d be probably $400K-500K now. Most 529K fund performance sucks, and we made the huge mistake by contributing once instead of annually.
Also instead of put in 100% of projected expense, I’d use Kelly’s Criterion and, say, there’s 10% chance no college, then 50/50 chance of private vs public, etc, and deposit only the fraction that reflect the odds.
I hear you on crappy returns. I’m assuming I got a target date fund as well?
A question for all of you. As an individual we could invest and get better returns for our kids education, but I want to start an investment for a grandchild so ALL family members can contribute. In this scenario a 529 will be the best?
Nice picture of the Wren Building at W&M. Go Tribe!
Go Tribe indeed!
I think you save too much for the 529. I saved about $100k (including gains) for each of my children and one is 1st year college and the other is 4th year college. They both go to UCs and the graduating one still have $50k left. The first year has a little bit of merritt scholarship (5k year or something like that) so he will have lots left over as well. Not really worried because we can use the surplus in case they want to go to grad school. Or will keep letting it ride and transfer it to the grandchildren! Remember that you don’t have to have everything covered since you can use some of your income along the way to cover what the 529 doesn’t.
How much would you recommend I save then for a child going to college in 2036, if I’m saving too much? Thanks
I’d say you may already be done now. Just let it ride. I would put it in fairly aggressive diversified investment and just make it a little more conservative once you get close to college age. I think if you contribute at your current rate you will be way over funded. But I do like the idea of adding a lot at the beginning since the benefit is the tax free gains and time is on your side for aggressive investing. Over funding is not bad since there are options to transfer the account to other generations but way over funding is not useful since your money is so restricted in how you can use it or you’d have to take the penalty. Also, I think choosing the college with a heavy weighting towards cost is a learning experience for your children. My first year child wanted to go to Boston University over UC Irvine and we said that BU is not worth the extra $180k over 4 years. Also, in my opinion UC Irvine is a better school. He understood that and is enjoying UCI. We would have paid for a top school like an Ivy if he got into one but that’s only because we could afford it.
With two kids, $193,000 in a 529 plan is nowhere near enough. I plan to keep contributing $20K or more a year. If my cash flow ever declines or dries up, I’ll reconsider. But when the money is flowing in, I want to take full advantage.
If both kids don’t go in-state or have scholarships then your probably right.
These days it is virtually impossible to get into a top or ivy school unless you are legacy or an athlete. Everyone else is fighting over the last few spots.
But there’s still a chance. I like to save for things just in case. Not sure what the downside is.
You are oversaving, I 100% agree with Nick. Your other posts also show your over-investment attitude to your kids. You don’t leave them a chance to do it themselves at all.
Let them attend public school, let them shoot for scholarships and teach them that you will fund no more than 30% of their college costs – for other 70% if they don’t even have scholarship – they can 1. start saving themselves when they are 10+ (and you can help with that!) and 2. work in summers and earn their way up (you can help with that too). Teach them how to live!
By helping them in a way you are trying to help – you are putting them in a golden cage, and that is a “no brainer” how to spoil your kids.
Are you really trying to hyper-compensate for what you had in your own childhood?..
Sounds good. How much did you save for your kids and how did they turn out?
What are the downsides to saving for future expenses? It’s not like I’m going to tell them how much I’ve saved for them.
If your child is spoiled just because you pay for their education, then you are a bad parent. Paying for their education doesn’t mean you’re buying them every shiny new toy that they ask for. Assuming you have the means, I’d much rather have my child focus on their school work and extracurriculars than have them worry about how to fund their own education and take on meaningless part time jobs. They can worry about money after college and for the rest of their adult life.
For 90% of the population 529 plan is not the best financial game plan!
Maxing out all the available pre-tax savings, 401(k), 403(b), traditional IRA, Roth, HSA and after-tax savings bank CDs,
index funds – this financial strategy may not give the maximum tax efficiency with regard to college, but it give so much more
flexibility in execution in support your children the freedom to choose their own path.
You may not realized that with so much planning and the result of unconscious guilt trip you will place on your children,
you will short change them of their own freewill.
Later today, I will post “Relationship – Give Your Children a Chance at Discovering Their Own Geniuses!”
I respectfully disagree, 529 is currently the best way to save for most everybody’s kids education
Yes – from the taxation perspective.
No – from giving your child an opportunity to live up to her/his potential!
I have never met a person who gives a nickel away for nothing – especially, the FIRE folks. Make sure your fingers prints are not branded on your child for life.
Freewill is the one of the crucial ingredients for the making of geniuses here in America in comparison to China.
You don’t give your kids a nickel or food or shelter out of love (aka nothing) but only in exchange for control? Fascinating.
Saving for college is one of those things many parents do rather than see their kids saddled with debt. Whether it’s 529s or some other method is tactical rather than strategic.
Oh, and as far as geniuses go…China’s average IQ is 105 while the US is 98…
https://www.sciencedirect.com/science/article/pii/S0160289610000450?via%3Dihub
Now, if you want to argue that we have more freedom here in the west that’s currently true as can be seen by those that immigrate to Canada and the US.
Their loss is our gain.
I’m sure you’re going to argue that genius is some function of schumpeterian entrepreneurship and not IQ and miss the point that good parenting can include providing a solid financial base for their children AND give them the opportunities to flourish.
Without many strings attached.
For many if not most kids, education is the golden ticket to a remunerative career…at least if you put your finger prints on them and steer them that way and not the free will to pursue a passion major with no job prospects that 43% of those surveyed regret pursuing.
https://www.cnbc.com/2019/11/12/the-5-college-majors-american-students-most-regret-picking.html
The people who are dissing college saving accounts are the same who bitch about Asians having high paid jobs. The country needs janitors, cooks, landscapers etc. Those people don’t need to save for education, they and their kids can get a job right after high school.
I disagree. Retirement accounts give you the tax deduction regardless of if the funds are used for education.
Aside from the up front state deduction (which is not even available in my state), I see no benefit in choosing a 529 over my 401k/IRA. Now if you fully maxed your retirement accounts and are looking to save even more then a 529 plan is a good option.
If you know the rules, you can access some of your retirement funds prior to age 59½ penalty free.
While I fully support the idea of starting a ‘savings’ account for college for kids, I am also torn as someone who had a small savings account (a literal bad-interest savings account) and had to work and apply for scholarships for fund my education. My parents funded ZERO. There is something to be said about work ethic and working hard for things that you want. A BS, MS, and PhD later, I had no student debt from three awesome schools (Wisconsin, Ohio State, Cornell). Is giving your kid “everything” the message you need to send? Do you value your place in life if it is all just given to you without work and dedicaton? Hearing the MASSIVE amounts of dollars that some people are shelling away for their kids is just insane to me (also, disclaimer, I have no children).
Sure, paying your way is great. I believe adults in graduate school should.
As a parent, you just want everything for your child. So there is a natural tendency to want to provide and take care of them. But I think it’s also wise not to tell your children how much you have for them saved up.
Stealth is the way!
Weird–I don’t share that “want everything” attitude towards my children.
I actually want very little for them. I want them to be healthy, good people that find a career/life path that brings them more happiness than sadness.
I don’t see where the six-figure 529 gets our family closer to that goal. It could help if they choose to go to an expensive out-of-state school, but I can see so many scenarios where it provides no help meeting our life-long goals.
I would be curious to see you expand on where the want everything mindset puts the goal posts for various other opportunities for your children.
Perhaps I can word it differently. I want everything for my children so that they grow up happy. That’s it.
So if having a good education helps increase the chance of their happiness, then that’s what I want.
I guess my point is then that millions of people have earned and are earning good educations without 529 plans. I would imagine almost every well educated individual over 40 today has done so without a 529.
I’d be curious your thoughts on how many people have missed out on a good education due to a lack of a 529.
I’m all for a good education, saving and helping my children, but I’m just not making the leap to the 529–the restrictions seem too great, regardless of any potential tax savings down the road.
Sure, feel free to not save for your children’s education. It’s all good. Don’t let anybody tell you otherwise. I think it’s great to have your children pave their own way as well through work or student loans.
I just have the funds to do so now, therefore, I plan to do so to take advantage of the compound tax-free growth. To me, it feels good to save and invest for specific purposes.
People 40 and over, paid a fraction for their education compared to today’s prices, which are crazy. Imagine 17-18 years from now what costs will be when Sam’s kids are ready to start. My education at a Top 25 Public University 40 years ago was something like $3500/yr. Our daughter’s education at a Top 25 Public University now, (she is a Junior) is running me $50K+ per year.
I mentioned in an earlier post, we started a 529 shortly after she was born and contributed $800/mo. for ~15 years, invested in an S&P Index fund and it had over $300K by the time she started her Freshman Year. All these years later I am very glad the funds were available now rather than me having to liquidate assets to cover her expenses. The school she goes to provides few scholarships so her only avenue would be student loans if we didn’t support her. I’d rather she focus on grades, have a well-rounded experience, and graduate debt-free than worry about financing college.
We had the means to help and it didn’t really force us to make changes in the rest of our financial strategies. I understand that not everyone has that luxury and you make do with what you can. However, this is the way we chose to go for our situation and the 529 was a good avenue for us to save for college.
Being in medical field, I have seen how most of my colleagues carry massive amount of student debts, nowadays you don’t need to go to medical school to come out with massive debts and most of the careers don’t make as much as doctors do after graduation. This puts a huge burden to the kids financial future. I can’t imagine a young adult coming out of college with $250 or $300k debt and making only $80k a year, theres no way this kid will ever move out of my house!!!
“I would imagine almost every well educated individual over 40 today has done so without a 529.”
Sure. I made it just fine without a 529 or any help from family. I worked ~30 hours per week and didn’t have to borrow.
However, education costs for the 20 year old today are really wildly different than from when a 20 year old started college 30 years ago. The rate of tuition cost inflation is on the order of 5X the actual inflationary rate. (Inflation data last 30 years has general total cumulative inflation at just over 100% and college tuition inflation at just under 500%.)
It is simply not possible for a 20 year old me, today, to work his way through the engineering college I went to.
Even if I somehow found a job paying $25 and hour, and worked 40 hours per week while trying to study and go to classes, I would fall far short every year.
529s are one of the best vehicles for inheritance and multigenerational wealth. I have overfunded my daughters 529 for that reason. I opened the account the day that the pregnancy test came back positive (best day of my life). It has $365k now and my daughter just turned 11. Only one child, whatever not used will transfer beneficiary to next generation, once my wife and me are gone, will transfer the account owner to my daughter.
All the talk about reduced or free college education has me curious about the law changes that would need to be written to address all the existing 529 plans and the potential impact.
My gut is that eventually the government is going to figure out a vehicle to begin capturing some or all of the tax-free growth that has been promised in 529s, 401ks, etc. as these accounts continue to grow exponentially.
I max the 401k for the deduction; however, the 529 provides no deduction for us, so we pass. And there is no way college costs grow at the rate they have ballooned the last 10 years, so worst case scenario is we fund via our active income, passive income or pull from savings 15 years from now. All three categories should be able to handle the expense 12 years from now.
Great suggestion to focus on the flagship school in your area! I struggled with this question as there are SO many variables in the decision. This seems reasonable to me as I have not seen much data out there that would justify the added expense of sending your child out of state. The ROI just isn’t there.
I hear also that most students do not pay sticker price to attend university. Maybe best to plan for worse case, but wonder if there is a way to obtain this information for planning purposes
Thanks for this post as I’ve been concerned I’m contributing too much to our 529 for my 3 kidss, age 8, 2, and 1. I live in Pennsylvania so anything I contribute to any state’s 529 is tax deductible, so it is tempting. My goal has been $150,000 by the time they reach 18. I have kept all of them 100% invested in stocks.
For my oldest kid, based on growth at 8% per year, I don’t think I need to add any more. My middle kid is almost there. And my youngest needs a bit more, but we got time.
But is $150,000 enough, 10 to 16 years from now? Your post has me questioning. I already have quite a bit in retirement, am 44 years old, and just started a new job that pays a lot more and is really enjoyable. So will have to think about this.
Sadly, if you want to pay full tuition, $150,000 is not enough for one child 10-16 years from now. But what you’ve accumulated is not bad so far!
Our approach is to give our two children decent 529 but not to where their college is fully funded. We plan on using it as a tool to teach our young adults about choices. I feel strongly that they need some skin in the game.
If we end up with better returns, I’m happy to help more. However entitlement is something to avoid, which makes paying for college a bad choice to me.
I couldn’t afford UC even though I had the grades, so I went to a CSU instead. My peers today have Haas MBA’s and degree from Stanford, yet my “lowly” CSU bachelors degree landed me in the same place. I also graduated with debt, tiny by today’s standards, that I paid off. Having that experience was a giant value in my life, and while I plan on making things easier for my kids, I want them to experience what I did too, it will serve them well.
I only hang out with Berkeley grads.JK!
So how do you know how much to accumulate in your 529 plan and when to stop?
Hi Sam,
I have a hard time justifying a 529 Plan for my children. I was fortunate enough to attend a service academy for my undergrad and left college with no financial debt. Additionally, I was fortunate enough to have my service fund a master’s degree at a well regarded state university. (Don’t worry, the taxpayers are getting the better part of 20 years indentured servitude for their investment).
Between my GI Bill which I have transferred to my wife and children and the chance that one or both of my children may want to follow in my footsteps, I can’t justify the risk that any money invested into a 529 Plan will go unneeded. From my perspective, the government is betting that many families will oversave and incur penalties. I would rather keep a low 529 balance and risk using after-tax investments than risk paying additional taxes and penalties.
Best Regards,
Jack
I highly doubt that the government is betting on most Americans to over save when most Americans can’t even save $100,000 for their retirement.
But I do think that return to one for our kids what we received. Just check out the comments. I’m glad things worked out for you guys!
With the rising cost of college tuition, it is best to start allocating money in a 529 plan. Even if your kid goes to state school it is still expensive. My daughter went to a state school in another state. The out-of-state tuition was quite expensive. Thank God we had a 529 that covered her 8 semesters just barely. She just graduated last summer..pheewwww thank goodness.
By contributing to a 529 you get more benefits than just investing for college purposes. There is the state tax deduction benefit as well.
Another thing to consider is if Jr decides to NOT go to college or get a full free ride to college. You can always change the 529 beneficiary to your grandchild.
I do recommend however that people think about funding their retirement accounts first. A kid may get scholarships and other grants that may alleviate the college tuition burden. however, there is no helping you if you do not put into your retirement accounts.
Our plan is to move back to the UK and our kids will go to college in the UK or rest of Europe, a few commentators have mentionned using their excess 529 funds for short “study” periods abroad, does anyone have any info on whether 529 funds are eligible to fund bachelor degrees overseas? So far I’ve only been able to find info on study periods as part of US based degrees. Along those lines would the $10K of 529 funds for K-12 tuition be eligible for overseas private school as well? If our kids attend UK universities then I would consider using some of their funds for private high school, we are already way overfunded for UK universities that cap tuition at 9000 pounds per year, regardless of whether you attend Oxford, Cambridge or a smaller local university. Would love to hear from anyone with info on this!!
I’ve been wondering about this exact question for quite some time. Saving $150k for my son to go to the UK for school seems manageable, but $500k makes me want to just give up before even trying.
My wife and I both attended public universities and received a fine education. Our goal for the 529 is to have enough money to pay for 4 years of tuition, room and board, books and fees at a state institute. The child can earn, get scholarships, or borrow for everything else. If they have money left over due to scholarships or getting AP credits they can use that money for graduate school. With 3 children going to college and a special needs sibling we can’t/wont pay whatever the little darling want. I am shocked at what many of my friends are willing to spend to keep their children happy including paying for graduate degrees, ridiculous private schools, sorority and fraternity expenses, new cars, etc.. Our first daughter is attending a state school and doing very well she is on track to graduate in 4 years with a good chance of having some money to help with graduate school if she wants to go.
Sounds like a good plan! I won’t be paying for graduate school. Our children should be making their own money by then if they really want to go. But then again, if they want to be doctors, that is one really steep bill to pay and we will have to talk about it when the time comes.
Our daughter is a Junior in Nursing at a Top 20 Public University. We began contributing $800/mo. when she was 2 and by the time she was ready to go to college, she had $316K in the 529. We have been in an S&P 500 fund the entire time but moved it to a laddered CD fund when she started college. We would have been much better off leaving it where it was but I just didn’t want to risk a big market drop right at a point when we needed to make a payment.
She will graduate in 2021, work a couple of years and then go back to school for a Masters or a combined Masters/Doctorate program and will have ~120K left in the 529 to cover it. It certainly is a blessing to have dealt with this over time and not have to worry about student loans or other avenues now.
I’ve had some interesting discussion with fellow parents on whether fully funding the 529 to cover 100% tuition/room/etc is a good idea.
Obviously the opinions varied from “of course” to “how about some or most” to “no, they should pay all of it themselves because that’s what I did”, but I think the takeaway is that it really doesn’t matter that much. What matters is whether they made practical decisions to major in an area that are in high demand. Sure it may not be their “passion”, but that worry can come after you’re financially stable.
For example, there are successful people who appreciated getting a free ride. It freed them to buy other assets a little earlier than their peers. There are also those that are struggling despite getting a free ride. There are successful people who are happily paying off or happily paid off their student loans because getting that loan allowed them to go to college to land a great job. Then of course there are those who are begrudgingly paying off their student loan wondering how education expense became so burdensome.
As a parent of two, I would absolutely love to pay for my kids education. But it also wouldn’t kill me if I’m only able to cover 50%. I’ll make all kinds of sacrifices in the world for my kids, but the 529 isn’t really on the top of my priority list.
It is insane how much college tuition has risen annually, far surpassing inflation. It is a trend that I hope is not sustainable because if it is not, it will cause students to graduate with massive amounts of loans or not having the ability to attend at all.
My daughter graduates high school in 2023. I am hoping to have around $200k in her 529 by then. Any short fall and I can cash flow it.
If she goes to med school she can have access to any leftover in her plan but otherwise would have to get student loans like I had to.
It is much harder to put money into a 529 as a single parent because you don’t get double the contribution limit as you would if married. That’s a bit unfair to a child who is punished in the first situation. A more ideal limit would be based on the household rather than husband and wife.
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Because college is a racket.
Just watch the millenials struggle.
I disagree. Education is the silver bullet and key for the average person to gain financial independence.
Below a certain income threshold even exceptional savers won’t be able to save enough to be FI…at least not FI above the poverty line.
Helping your kids graduate without college debt and a good major is single most useful thing a parent can do unless they can actually help them not just through trade school but to successfully apprentice in the trade and make it to licensed journeyman.
I don’t think trades are the easy alternative to college that some folks think. It’s a lot easier if you are in the trade yourself or can ask a buddy in the target trade to apprentice your kid.
“Education is the silver bullet and key for the average person to gain financial independence.”
I wonder how many of the 45M people with college debt would share that “silver bullet” sentiment. This fallacy has resulted in exorbitant tuition costs and astronomical student debt.
“Helping your kids graduate without college debt and a good major is single most useful thing a parent can do…”
There’s a lot more useful things you can do for and teach your kids over their lifetimes that are much more useful than shelling out a couple bucks for school. I have listened to numerous interviews from parents of highly successful adults and I don’t recall a single one of them saying that paying for their education was anywhere near the top of the important list.
“I don’t think trades are the easy alternative to college that some folks think.”
Sure, some trades are more difficult to get into in certain locales, I agree; but in certain fields, the opportunities are abundant, quite similar to applying for colleges.
Is this a parenting forum or a how to save for your children’s college forum? It seems you are visiting the wrong forum. As someone who is expecting my first child in May, I plan on maxing out the 529 and continuing to fund it fully. Graduating without student debt is a wonderful gift whether a person appreciates it or not.
This topic mixes parenting with finance…some folks believe that the strategy of providing your kids with a paid for college education is incorrect so it doesn’t matter what the tactics are (529 vs something else)…by default they are all sub-optimal.
Of course, if you don’t try to save college money for your kids then they are far more likely to join that unhappy 45M people with college debt. Funny how that works out.
Folks also like to make it either/or…like you can’t teach your kids other stuff while ALSO saving for college. Gosh, you can do both and one of the key lessons that most folks in FIRE forums believe is saving for something is worthwhile…and many, if not most folks who do FIRE actually earned good money from a high paying job and saved it.
Funny how that works too.
Then there’s the tactical discussion whether the limitations of 529s are worth the tax benefits they provide. On that score I hedged…I bought one 529 prepaid tuition (for the oldest of three kids), two blocks of money in target date 529 funds that would pay for half the tuitions of the younger two and saved a larger block for living expenses and the remainder of the expected tuition in after tax accounts.
One idea I had was to put the 529 in the child’s name. Should the child decide not to use it, they can pass it down to their child.
Sam, have you considered setting a large sum of money aside in a cash value life insurance policy in order to take advantage of a steep market drop? Van Mueller teaches that by using the guarantees of cash value life insurance someone can take advatage of any huge financial disaster. Will you please do an analysis of this kind of strategy?
Hi Sam,
My daughter graduated from high school in June of 2009. From the end of her junior year in June of 2008 to February 2009 the S&P 500 Index lost over 40% of its value.
Fortunately, I had switched her 529 plan into a conservative target asset allocation fund in her sophomore year.
A 529 for college has about 14 years for appreciation via stock market exposure as at age 15 you need to significantly dial down the stock market risk.
Fortunately, you have been able to start the 529 for your son during a bull market and are off to a great start.
Sequential risk is greatly magnified in a 529 plan as both the accumulation and pulldown phases are much shorter when compared to the 40-year accumulation phase and a 25-year pulldown phase of a 401k plan.
Regards,
Financial Dadvisor
We contributed to Michigan 529 plan when our son was born. He went to a state college with a full ride as he is a national merit scholar finalist. So we didn’t use the 529 plan for his undergraduate. Now he’s attending a medical school. We use 529 plan to pay for his med school. The return is phenomena over the years. Our account has had a 44% return so far.
Sam, if you have too much left in the 529 you can also take a class in France for French cuisine. Imagine a year long vacation in the vineyards.
Personally I don’t like 529 since CA doesn’t provide any benefits.
This is something I have on my to-do list to research for myself. How can I use these funds for qualifying expenses abroad to subsidize learning of my choice and housing while in a foreign country?
For example, University of the Sunshine Coast in Queensland Australia offers a course called the Geography of Surfing. Could I use 529 funds to live in Australia on a beach while learning to surf? What costs qualify for 529 plan withdrawals? I need to do more homework on this.
We’re hedging our bets I guess and not funding huge amounts each year. $400 per month per kid in a 529 (and we can deduct $2K per year per kid). 12 year old has around $100K, 8 year old $60K and 6 year old $40K. I think it should be enough to pay for in state tuition.
Good read Sam. For what it’s worth, I also opened 529’s for my kids as soon as they were born (12 and 13 years ago) and did target based funds at Fidelity for the first 7 years or so. Finally woke up and noticed the returns were *garbage* compared to the S&P index fund (of course with higher expenses too), so made the change and have been so much better off. I know timing is everything, but given how much runway you have until the little ones head off to college, I’ll bet you a cold one that you’ll be better off if you do the same. Look forward to you making good on that bet in 2035! ;)
We told our kids we’d pay for college up to the cost of our in-state U. We had ample resources to cash flow that for all three and felt out of state prestige schools were a poor investment. I’m glad we didn’t use 529’s because they all got 100% free rides. We would have had no use for that money for educationapurposes. But that strategy only worked because we had resources to cash flow had we had to pay. Free in state tuition, fees and room and board isn’t that rare for smart kids with good study habits who select practical majors.
That is awesome that all three of your kids got free rides. Maybe that depends more on your state – what state do you live in? I live in Illinois and full (even partial) scholarship to state schools is pretty much unheard of unless you are a star athlete. I’ll paying full price for 2 kids now, with 1 still in high school.
My parents I think gave me $500 total towards my college that’s it. I’m in my mid-forties… I went to a two year community college and then transferred to a larger 4 year school. I paid for it all myself. I even paid for my own braces when I was 16.
Of course I think if my parents had the resources they may have paid it all… but if I have kids I feel like they should pay most of it themselves. IDK, maybe then they will be more shrewd on where they go, since they won’t have a large pot of money to blow. Maybe I’m in the minority, but they should have some skin in the game.
For sure. We ain’t gonna tell our kids we’ve got a college fund for them. Stealth wealth!
I feel great going to W&M, where tuition was only $2,800/year at the time.
Skin in the game certainly makes you appreciate the hustle and money more.
Related: A Stealth Wealth Solution For Real Estate Investors With Kids
I think also growing up with more limited resources shaped my finances today. It helped me be more independent since I had to fend for myself. It also did make me frugal and a saver. Which at times I wish I wasn’t so tight even though I know I can afford things.
It’s also hard to get motivated when your comfortable or don’t have to hustle as you put it.
Meh, I grew up poor/frugal and it sucked to be made fun of for having the wrong clothes, etc.
Yes, it builds “character” and I have a certain level of frugality built in but still dislike public transportation, crappy clothes and home cooked food.
There can be the opposite effect where someone is a spendthrift once they have a decent paying job.
I don’t track my expenditures or budget and I know this is an issue so all I do is save first in the 401K, second in the 529s, third into the market and last into savings and maintain 10 months cash then everything else I can spend.
After observing friends and their siblings and my kid’s friends and team mates and talking to their parents, poor, middle or rich, folks with hustle likely would have had hustle either way given how different some siblings came out in the same family environment.
Depending on which of my kids teachers you talk to either we are awesome parents or terrible as one studies hard and the other doesn’t.
In my opinion giving your kids an average or slightly above average lifestyle isn’t likely to hurt them. Giving them a poor lifestyle isn’t all that likely to motivate them beyond what they would have been either.
The emotional benefit of having “skin in the game” is exactly why liberal Democrat ideas of “free tuition” for all are so stupid.
I would consider myself liberal and dislike the idea of cancelling student debt. I’d be pissed actually since I paid off my own debt. Don’t go to an expensive school or if you do don’t expect to be bailed out payment wise.
I like your stealth wealth idea with your kids, but I’m wondering how it will work for you.
Are you going to prevent them from learning to read, or..
just keep them off of FinancialSamurai.com so they don’t learn your plans ? ? ?
I finally decided to open a 529 for my high school senior. She already has tuition scholarships awarded at a nearby university. After finding out that we can use the money for room, board, books, supplies, computers, internet access, etc. , I opened an account mostly for the 5% state tax credit.
I’m really glad you and others continue to write these posts and provide the information that you’ve collected.
Thanks!
Regular readers can’t even remember what I’ve written from three months ago, let alone a year ago. I’m sure my kids won’t bother to read the FS archives 18 years from now! :)
Hi Sam,
We followed the advice to finally max out our 401ks for the first time in 2019, then contributing $15k per kid (from $6K) starting in 2020- pretty much saving until it hurts. The plan is to do this for the next 4 years and have college 75% funded with 529’s for a top in-state public university + room and board. We don’t get a state credit. We will cash flow or use after tax accounts for the remainder.
Awesome! The pain of saving actually feels so good right? Especially after a great 2019.
My kids are a little older – 17, 19, and 21. The older 2 are already in college so I have already been dipping into the 529 plans to pay for it. My goals were to have $120K in each of their college accounts. I started funding them when the kids were born. I can’t tell you what a HUGE relief it is each semester to take money out of the 529 for college expenses vs having to liquidate some assets or dip into savings to pay their bills. I can contribute $20K each year free from state income taxes by using my states 529 plan – It’s not much, but the tax savings help.
That is good to know about how good it feels to be able to withdraw money out from your 529 to pay for their education! Your 529 plans must have done pretty well over the pasty 17-21 years yeah?
You remind me that living in a high income tax state like California or New Jersey or Illinois makes contributing to a 529 plan even better.
If you could rewind time, what would you do differently wrt contributing to your 529 plan? tx
I can’t think of anything I would do differently – couple of pieces of advice:
1. Start contributing as early as possible (when the kids are born), it is less painful per year and you can earn some return on your investments.
2. Check out your state program in case there are tax benefits (or other benefits).
3. This is kind of a scam – so don’t tell anybody – for my state, there is no minimum time you need to leave the money invested – so you can contribute $20K, then pull it out 2 weeks later for educational expenses, and still deduct the $20K from your state income taxes.
I don’t believe you can deduct all $20K fro your state income taxes. It is capped at $2,500 per child per year.
In Illinois, you can deduct $10,000 per parent ($20,000 per year for 2 parent household). This will vary by state.
I agree with David. Our kids are 20, 17 and 16 and we’re starting to use our 529 money we’ve saved for the last 20 years. He’s right…it feels REALLY good to have the money saved already when you hear people saying they are doing auto-payments, liquidating, etc. I did 2 different 529’s per child just to diversify and I’m glad I did. I did Bright Start (we live in IL) and Michigan’s 529 fund for each. We also did a bit of Fidelity for each of them for extra measure. I’m a FS fan from years ago!
Also, when you hear parents or kids say they are taking out massive student debt!
This is a hard topic and there are so many different opinions. On the one hand, the initial tax savings and subsequent tax free growth are hard to beat, but of course none of us know for 100% certainty that our kids will attend college. In our case, we both have postgrad degrees, so it seems likely that the kids will at least go to college.
My strategy has been to contribute $14-15k per year (gift tax limit) until the 529 account value equaled the total cost to attend our best in state public school, including room and board. Once hitting that goal, I’ve scaled contributions back to the maximum contribution amount to qualify for our state tax credit, which is quite a bit lower. First kiddo was fully funded by first grade for in state public university, and I’m expecting similar results for second kiddo. I doubt using this strategy I’ll end up with more in the accounts than we’ll spend on their educations, but if that happens, Italian language classes in Italy sounds like a lovely way to spend retirement.
That’s my strategy too – look at best in-state public school as a baseline while kids are young. Before, I was ignoring room & board though (it didn’t seem qualified expenses there were as flexible), and now I’m changing my mind on that to add in some more since some room & board amounts should be easy to claim.
State of CO has an excellent 529 state-tax deduction (no limit, and 1:1 credit) so it encourages investing more there.
I like this idea and have 2 children under the age of 2. One question for you:
“My strategy has been to contribute $14-15k per year (gift tax limit) until the 529 account value equaled the total cost to attend our best in state public school, including room and board.”
Did you accumulate to today’s cost for the full 4 years? Or just to the equivalent of 1 year of tuition in today’s dollars, and let the smaller contributions over the years make up the difference?
thx!
Every year I look up the total cost of attendance at our flagship state school, which is my ‘moving target’. I just assumed that once my oldest had enough in his 529 account to attend our flagship state school as of that year, the investment growth in the account will keep up with inflation and nothing more. It seems like a random guessing game, and this is the assumption that I am going with for now, but I really enjoy reading how other people are approaching the issue, as there doesn’t seem to me to be an obvious right way to do it.
Keep in mind that one or both of your kids may choose not to attend college. Can you imagine having $2 million set aside that the kids won’t need?
I have two grown kids and I was prepared to fund college for both of them. One of my kids elected to skip college (he started a business and was financially independent by age 18, so he didn’t see any benefit to pursuing a college degree). Luckily, our money wasn’t stuck inside a 529, so it was an easy adjustment for us.
Even if both your kids ultimately attend college, the same may not be true for your readers, hence my post.
Great blog, Sam. I always enjoy reading your posts.
You’ll have to share the story about your son becoming financially independent the year he became an adult!
Hopefully the points in my post help readers better figure out their own situation.
And if I had $2 million in our 529 plan because it was mostly from Gaines, even if my kids didn’t go to college, I would be ecstatic! I change the beneficiaries to my grandkids. And to my cousins who may have children one day.
For most people, $2 million would be a huge percentage of their net worth. If the Above Average Married Couple ™ is about 50 years old when their second child graduates high school, $2 million might be 80% of their net worth! Even the most generous of us might have a hard time parting with 80% of our net worth to educate our unborn grandkids and cousins’ children, I think!
You point out that 529 money can be withdrawn for nonqualified expenses with a 10% penalty and income taxes. So, maybe we assume 50% of the $2 million is penalized and taxable, that’s still a $350,000 setback (further assuming a 10% penalty + 25% tax). Probably more than a year’s pay for that same Above Average Married Couple.
Don’t get me wrong, Sam. I generally thing setting aside money in a 529 is a great idea for those with kids that might want to attend college someday. My point is simply that we never know what our kids might decide to do (or not do) when they become adults, so we should plan and save with that in mind. I certainly had no idea, when my son was 5 or even 10 years old, that he’d have no interest in college. In my case, I’m glad that money I put aside for his education was not tied up in a 529.
As far as my son’s financial independence, I should clarify. He’s financially independent from the bank of mom and dad. In other words, he makes enough money with his business to support himself 100%. We are very proud of him and impressed with what he’s been able to accomplish at a very young age.
For sure regarding the $2 mil. But $2 mil is a wild number. 99% of us aren’t going to accumulate $2 mil in a 529 plan, so it’s mute.
I’m personally shooting for $500k per child.
Glad your son is independent! I like my 29 yo neighbor still living at home!
#5 is the most important point. It’s great to fund for your children’s college (my 5 year old has probably $80k in his 529 and my 2 year old maybe $45k and i hope they can go to the college of their choosing with no debt) but at the same time, once your money goes into a 529 it’s there forever. You should not forgo retirement savings in lieu of a 529. You can always finance college, you cant finance your retirement.
Sam,
This made me lol- “Knowing my wife and I are of average intelligence, we assume he will not get any academic scholarships either.” because it may not seem obvious to you, but you are definitely above average intelligence.
If you are worried about college costs, you could always be a part-time adjunct faculty at (insert Uni here) and then your kids go to that college for free/basically free! *Working for a Uni is currently how I am paying for my Master’s degree*
Additional, if you end up saving too much in your 529 (because your kids picked an affordable college! GO PARENTS!!) you can use it for yourself!! I am trying to use my 529 to study abroad this summer, tax-free learn how to cook in Italy vacation here I come!
Cheers
TJ
Hi TJ,
You overestimate my intelligence! Just look at my grades and test scores in school. But perhaps I’m not doing my wife’s intelligence justice by writing what I wrote. She probably won’t notice because we are both on 1-3 hour sleep cycles with a little one ZzZzZZzzz.
My friend’s mom worked at Georgetown and he got in with a full ride! Seems like a no brainer. But again, to get a job at an institution that is full of braniacs probably requires one to be a braniac themselves. No chance.
Enjoy Italy!
S
That’s a great idea and surely there’s a way to do something creative like that with your education money. I like your thinking – room & board in a nice area for some easy education.