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Investing your stimulus rebate for college
Joe Hurley * Savingforcollege.com
Just about everyone who expects to receive a "stimulus rebate" from the U.S. government has filed their tax returns by now. We're just waiting for the money to get here … but for what purpose?
The policymakers say "spend it." The whole point of the rebate, they argue, is to boost consumer spending and jumpstart the economy. But to others, instant gratification is not the right approach: that would be like telling your kids to eat more candy because the dentist needs a new car.
If you have school-age children or grandchildren, and don't have other pressing needs such as debt repayment or retirement funding, you're better off using the stimulus money to boost your college-savings accounts. As you may know, college costs are increasing faster than both inflation and average family incomes. Setting aside the rebate money in a college-savings fund can help in preserve your ability to afford future college expenses—something a new HD television will not help you with.
To test that argument, Savingforcollege.com has a completed a study that compares the 5-year historical performance of "age-based" options in 529 savings plans to the average increase in private-college tuition over the last five years. By projecting these figures into the future, you can see how much good might come from investing, rather than spending, your rebate check. (Of course, this assumes that history is a good proxy for the future, which may not be the case.)
The results of our study, as summarized in the table below, are fairly compelling.
The table shows, for example, that if you were to invest a $1,500 stimulus rebate (the maximum amount for two parents and one child) into a 529 plan's age-based option when the child is a newborn, and the performance of the plan duplicates the average age-based returns over the last five years for each one-year interval as your child gets older, by the time that child is ready to go to college in 18 years your account will have grown to $9,575. During that same period, $1,500 worth of tuition will inflate to $4,000, based on the 5.6 percent average annual increase in private-college tuition costs over the last five years.
This means your 529 account will have grown more than twice as fast as tuition, and you would have an extra $5,575 to use towards other college costs. How's that for effective use of your rebate?
Remember: Past performance is not a guarantee of future returns. Your investment involves risk of loss.
| Years to enrollment | Annual Return1 | 529 Balance2 | Tuition3 | Excess |
|---|---|---|---|---|
| 1 | 6.73 | 1,601 | 1,584 | 17 |
| 2 | 6.98 | 1,713 | 1,673 | 40 |
| 3 | 7.90 | 1,848 | 1,766 | 82 |
| 4 | 8.80 | 2,010 | 1,865 | 145 |
| 5 | 9.19 | 2,195 | 1,970 | 225 |
| 6 | 9.31 | 2,400 | 2,080 | 319 |
| 7 | 10.10 | 2,642 | 2,197 | 445 |
| 8 | 11.11 | 2,936 | 2,320 | 616 |
| 9 | 11.25 | 3,266 | 2,449 | 816 |
| 10 | 12.01 | 3,658 | 2,587 | 1,071 |
| 11 | 12.07 | 4,099 | 2,731 | 1,368 |
| 12 | 12.14 | 4,597 | 2,884 | 1,712 |
| 13 | 13.01 | 5,195 | 3,046 | 2,149 |
| 14 | 13.13 | 5,877 | 3,217 | 2,660 |
| 15 | 13.18 | 6,651 | 3,397 | 3,255 |
| 16 | 12.91 | 7,510 | 3,587 | 3,923 |
| 17 | 12.91 | 8,480 | 3,788 | 4,692 |
| 18 | 12.91 | 9,575 | 4,000 | 5,575 |
1. The first two columns in the table below show the average annual returns, over the five-year period January 1, 2003 through December 31, 2007, for age-based options in 529 plans applicable to children with a specified number of years to enrollment. For example, the average annual return for children with 18 years to enrollment (i.e. a newborn) was 12.91 percent. For children with 5 years to enrollment, the average annual return was 9.19 percent.
2. The third column shows the balance of a hypothetical 529 account that began with the contribution of a $1,500 stimulus rebate and grows until the year of college enrollment at rates determined by the actual experience of age-based accounts.
3. The fourth column shows what $1,500 of tuition will grow to between now and college enrollment, based on the average tuition increase at private colleges over the five-year period from 2001-02 to 2006-07. The College Board has pegged this tuition-inflation figure at 5.6 percent. Trends in College Pricing 2007, The College Board, October 2007.
Posted May 25, 2008
Joe Hurley is the founder of SavingforCollege.com, and a certified public accountant.
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