Even if your children are just a few years away from starting college, its not too late to start a college savings account. But its never too early to start one, either.
Saving for college is something parents may not think about, or act on, until their child is 7 years old or so. Thats better than starting when children reach high school, but a college fund can also be started at birth or earlier.
Money in 529 plan accounts"named from a section of the federal tax code"grows tax free and is tax free when withdrawn and spent on eligible expenses like tuition, fees, housing, meal plans, books and equipment. It can pay for private school from elementary school onward.
Heres how saving early can add up. Suppose you start saving right after a child is born, investing a $2,000 lump sum to start and continuing with monthly $300 contributions until age 18. By the time the child enters college, the account grows to $130,077, assuming an average annual return of 6.21 percent, according to research by RBC Wealth Management.
By delaying the same savings method until the child turns 6, the account grows to $73,026, or about 44 percent less. If parents didnt start saving until the child turned 12, the total value would reach $33,284.
Not only is less money invested if saving starts later, but theres less interest to compound. Also, the most popular investment options for 529 plans automatically shift funds from stocks to bonds as the child ages, typically creating less risk and lower returns. Opening an account later, such as at age 7, means that youre missing out on potential gains from early, more aggressive investments.
A model that Morningstar based on average allocations for stocks and bonds in age-based portfolios found that with a $50,000 investment divided into equal monthly installments, someone who began saving when a child was 7 could expect a median balance of almost $81,000 by age 18.
Starting a year earlier at age 6, the median balance would be almost $4,000 higher. If opened at birth, the account would be $30,000 higher.
Contributing to a college savings plan late, such as when a child is in high school, can be leveraged for long-term gain by using it if the child pursues a graduate degree years later.
But forget about the above figures for a moment. Whenever you start saving for your childrens college fund, show them the balance each month as an incentive for both of you to save more.
Published with permission from RISMedia.