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The magic number for college savings
The day finally arrives when you get to bring your new baby home from the hospital. Maybe you've already given some thought to saving for her college education. If not, you can be sure that one of your friends will remark in a joking sort of way that paying for her college education in 18 years could put you in the poorhouse. So you ask yourself how much you really should be putting away for each month for your newborn's college education.
Can you spare $250 a month?
We explain a bit further on why we think $250 a month is a reasonable savings target for many families serious about building up a college savings fund. In developing this figure, we used our own "World's Simplest College Cost Calculator". We encourage you to use this incredibly easy, flexible, and accurate calculator for your own college planning.
Not the 100% solution
Will $250 a month take care of all your newborn's college costs in the future? Not likely. In fact, it may not even be close. But then, you shouldn't try to save for 100% of the published price at an Ivy League school, even when you know in your heart that's where your exceptional child is headed. Let's look at the economic situation for most students at four-year colleges and institutions.
The published price for tuition, fees, room and board, and other costs (in other words, the full student "budget") at the average 4-year private college for the 2014-15 school year is likely to be somewhere around $47,000 (this assumes costs go up 5% from the $44,750 figure as computed by the College Board for the 2013-14 school year). If costs continue to rise 5% annually, the four-year sticker price for today's newborn will be about $487,000. If your 529 plan gives you a 5% after-tax return, your $250 a month will eventually provide you with $104,000 in your college savings account, or 21% of the total price.
Admittedly, the savings "gap" is still large: $383,000. But before you start hyperventilating, consider that for most families this is a "worst case" cost projection (except perhaps for those headed to the Ivy League or equivalent). And you may feel that saving for the room and board portion is not appropriate since your child may decide to commute to school, or because much of that cost is incurred whether or not the child is attending college.
Here are some more reasons you should be feeling pretty good about the results from putting away $250 per month:
- The College Board finds that the "net price" at the average private college in 2013-14 was about $17,630 less than the published price. The difference comes from institutional grants and federal grants and tax benefits. If we adjust the numbers in our calculator we find that your $250 a month now covers more than one-third (34%) of the four-year cost instead of just 21% of the cost.
- If your child attends the public university in your state, the cost drops further. Four years at the average public university starting in 18 years is projected to cost $249,000 based on the anticipated average $22,800 sticker price for the 2014-15 school year. The projected cost drops to $189,000 if we use the net price of $18,200 (after adjusting for the average public university student's grants and tax benefits). The projected growth of your $250 a month will be enough to cover 42% (sticker) or 55% (net price) for four years at your in-state school. Not too shabby.
- If you start out contributing $250 a month, you will likely be able to increase your contributions in the future as your income goes up. In fact, even if you cannot afford $250 now, you may find it much easier to make up for the shortfall by targeting a certain percentage of your income to college savings and look to make up the difference in the future.
- The rate of inflation of college costs may be less than 5%, and/or your investment returns may be greater than 5%. If we increase the projected investment returns in your college savings account from 5% to 7% (but keep college costs rising at 5%), your $250 a month now covers 27% (sticker) at the private college (up from 21%), and 54% (sticker) at the in-state public university (up from 42%). Of course we're assuming your investment is in a 529 plan, where you pay no taxes on earnings when the money is used for qualifying expenses.
"But my child is not a newborn"
If your child is older, and you haven't any college savings, you will naturally have to save more each month if you want to be on the same track as the newborn in our example above. Instead of $250 per month, the parents of a 6-year-old are looking at about $300 per month, and the parents of a 12-year-old ought to be putting away at least $450 per month. These amounts will produce approximately the same coverage percentages described above. (You can see why the experts advise that you begin saving when your child is young.)
Chart your own path
Everyone's financial circumstances are different and it is difficult if not impossible to predict what the costs of your child's college education will turn out to be. Choice of college and curriculum, eligibility for financial aid, gifts from grandparents or other relatives, and the ability to snag an academic or athletic scholarship will all be factors. In any set of circumstances you are better off saving something than saving nothing. Use the World's Simplest College Cost Calculator and the other resources on this site to refine your plan.