Tax-Smart Ways to Save for College

By Sallie Krawcheck

We all want to do what’s best for our kids. Often that means helping them get a college education. Earning a bachelor’s degree boosts their chances of having a lucrative career and achieving financial independence.

The cost of that education though can be steep. From preschool through high school, you’re already on the hook for a large sum. College and graduate school can add hundreds of thousands of dollars to the bill.

According to the College Board, the average cost for the 2014-15 school year at an in-state public college—including tuition, fees, room and board—was nearly $19,000, up 12% over the past five years. At a private university, it was up 9% to more than $42,400. By the time your kids head off to school, sticker prices are expected to be even higher.

Of course saving for your kids’ college educations does not have to be your top priority. After all, they can get tuition assistance in the form of scholarships, grants and loans. No such help is available for your retirement.

If you have the means however, your contributions to their college funds can save your kids from starting their adult lives under a mountain of debt. Among 2015 college graduates, the average student-loan debt is more than $35,000, according to

What’s the best way to save for your children’s college fund? For most people, the answer is a 529 savings plan.

These state-sponsored plans offer great tax benefits for cash set aside specifically for college expenses. The rules vary by state, but generally, earnings grow tax-free and withdrawals made for qualified education costs are also tax-free.

Some states are more generous with their plans than others, offering breaks on state, as well as federal, taxes. Your state might also offer a 529 prepaid tuition plan that allows you to lock in rates and avoid the inevitable future increases in college costs.

It’s important that you do your research and figure out if your home state offers the best plan for you or if you ought to look elsewhere. Most plans are open to residents of any state. You can find details about each, including how to open an account, at

Many 529s have high contribution limits, up to $300,000 total. But if you want to save more than the permitted amount, or if you’d like to spread around your savings, you can invest in multiple 529 plans for each child.

You also have a few other tax-advantaged options to supplement your savings:

For Your Reference

Coverdell Education Savings Account

If you want the flexibility to use your funds for private elementary and high school costs, try a Coverdell Education Savings Account.

Like a 529, these accounts offer tax-free growth and withdrawals for qualified education costs, which includes tuition for K-12 private schools. Another benefit: Within a Coverdell, you can invest your savings in almost anything. In contrast, in a 529, you’re limited to the funds selected by the investment company managing the account.

In order to contribute to a Coverdell in 2015, you must have an adjusted gross income of less than $110,000 if you’re single or $220,000 if you’re married and filing jointly. Also, the beneficiary must be younger than 18. Plus, you can only contribute up to $2,000 a year, and all funds must be used by the time your kid turns 30.

Uniform Gift to Minors Act (UGMA) or Uniform Transfers to Minors Act (UTMA) Accounts

If your income is too high to qualify you for a Coverdell, consider saving in your child’s name and opening a custodial UGMA or UTMA account.

There are no restrictions on income or contributions. Once your child reaches the age of majority (typically 18 or 21, depending on your state), she is free to spend the money however she wishes (which may be a pro or a con, depending on how you look at it). Full-time students younger than 24 pay no tax on the first $1,050 of unearned income. The next $1,050 is taxed at the child’s typically lower tax rate. Everything else is taxed at her parents’ (or the custodian’s) marginal rate.

A potential drawback: The money will be considered assets of your child on the Free Application for Federal Student Aid (FAFSA). Big numbers in the account equate to smaller numbers in aid.

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Sallie Krawcheck

Sallie Krawcheck is the Co-Founder & CEO of Ellevest. Her life’s mission is to help women to reach their financial and professional goals.