How a 529 Plan Can Help You Save for College and Fight Inflation
Welcome to part one of our new four-part inflation series where we're going to address how to get a head start on inflation so you don’t feel its effect as strongly in the future.
Inflation is an unavoidable part of life and is something we can all plan for—sometimes decades in advance.
All parents want to give their child the best possible start in the world, which is why so many loving parents spend nearly two decades saving for their child’s future college education. Parents can choose a savings plan and method that works best for them, but we advise against simply stashing a college fund in a savings account. Why? Because savings accounts don’t offer a high enough interest rate to combat the effects of inflation.
Let’s look at how a 529 plan can help you grow your child’s savings while enjoying tax advantages.
What is a 529 Plan?
A 529 plan is a savings plan designed to pay for education expenses (undergraduate and graduate school, K-12 education, or apprenticeship programs) and comes with some unique tax advantages. You can typically purchase a 529 plan directly from a state or from a broker or financial advisor. There are two main types of 529 plans.
Savings plans. With this plan type, growth is tax-deferred and withdrawals are tax-free if you use them for qualified education expenses. You invest your contributions held in the plan and they can grow over time.
Prepaid tuition plans. Through a prepaid tuition plan you can pay tuition in advance at designated colleges and universities while locking in the current cost of tuition. If you do a prepaid tuition plan when your child is one years old in 2022, you won’t pay the much higher prices the university will be charging 18 years later in 2040. Usually, prepaid tuition plans work for certain college systems, not just a single school.
As an added bonus, in 30 different states contributions to a 529 plan are eligible for tax deductions on state taxes.
How a 529 Plan Can Help You Fight Inflation
Imagine this—you welcome your new bundle of joy into the world and to celebrate you put $20,000 into a savings account to start saving for college. That’s a great start and one your child will surely appreciate. If you simply leave those funds in the savings account, what will happen over the next 18 years while your child grows up? Nothing much. You will gain a small amount of interest on the savings, but not enough to make an impact. The money will be safe in a savings account, but it won’t grow and 18 years from now, that $20,000 will stretch a lot less further than it did when you first set it aside.
Investing the money through a 529 savings plan and giving it a chance to really grow can help you avoid falling prey to inflation. Usually, 529 plan investments get more conservative as a child gets closer to college-age in order to keep your savings more stable leading up to when you need to utilize them.
If you are confident about the college system your child will attend, a prepaid tuition plan is a really great way to avoid the effects of inflation but is much less flexible than a 529 savings plan.