You probably have a goal to put away a little bit of money each month in your child’s college savings plan. However, determining how much to save each month can be a challenge.
This guide will provide some insights and practical tips to help you decide how much your child will need for college. It will also help you determine how much you can afford to save based on critical factors like projected college costs and investment growth.
Determining How Much to Contribute
How much to save for your child’s future education is not a decision that should be made in a vacuum. There are a variety of factors to consider, including
- your overall financial situation
- your child’s education goals
- and the number of years before your child goes to college.
By taking a holistic view of your financial picture, you can develop a realistic plan to ensure your child can afford their education.
Assessing Future Education Costs
Chances are, the cost of a college education is going to increase. It may even increase dramatically by the time your child graduates. Beyond that, costs can vary significantly between in-state and out-of-state public schools, private institutions, and for-profit colleges.
Today, the average cost of four-year public colleges is over $11,000. Education expenses continue to rise for out-of-state and private college students as well.
With that in mind, estimating the future costs should be your first step. Then, you can determine how much to contribute to a 529 plan. Using our College Savings Calculator, you can estimate your child’s education costs, considering inflation and potential tuition increases.
For example, consider the parents who have started to save for their 5-year-old’s education. They are investing $200 every month in a 529 plan. By the time their daughter is ready for college, that account could be worth over $47,000. That should be enough to cover her first year of tuition at an in-state public college.
Family Financial Situation
While important, saving for college is likely not the only financial obligation your family faces. Once you know your child’s tuition bill, you need to look at other factors. Consider your current income, expenses, debts, and other savings goals. It’s essential to balance saving for college with other financial priorities like retirement and emergency funds.
Setting Savings Goals
Now, you should have a clear picture of your financial situation and a realistic picture of your higher education expenses. The next step is to set a savings goal for your college savings plan. Consider creating a timeline for your contributions. Start now and continue it for several years until your child attends college.
Looking at the example above, consider when you might be able to increase your contributions. How much debt are you willing to take on, or have your child take on, to pay for higher education?
Savings Strategies: Calculating How Much to Contribute
With a clear understanding of all the factors that will influence your 529 plan contributions, you can begin to formulate a specific savings strategy. To calculate how much to save, you need to analyze
- your financial goals
- the expected cost of education
- and your investment timeline.
You also need to choose a strategy. There are several approaches, including consistent monthly contributions. There may also be occasional lump sum investments. Optimize your saving efforts by custom tailoring a strategy to meet your family’s unique circumstances.
Regular Monthly Contributions
The most popular way for parents to save for their child’s education is to make regular monthly contributions to their college savings plan. Spreading your contributions out over time makes the payments more manageable. Our online calculator can give you a personalized projection of your future college costs. You enter your child’s age, college type, and household income.
In Florida, for example, where in-state tuition is lowest, parents need to save approximately $600 a month for a child born today to ensure they can attend college debt-free and without scholarships. Every child and every family is different, so we encourage you to play around with the calculator and see what the projections are for your situation.
There are no yearly contribution limits to how much you can contribute. Each state, however, has an aggregate contribution limit. The IRS also has annual gift tax exclusion limits. There could be tax implications if you contribute more than these amounts. Remember, you can always increase, decrease, or pause your contributions at any time. As your financial situation changes, consider what works best for you. Plan to revisit that decision as part of your overall financial picture in a few months.
Lump Sum Contributions
Lump sum contributions can be a great way to boost your savings. If you receive a windfall, such as a bonus or inheritance, consider depositing a significant amount into the 529 plan. This approach can significantly reduce the monthly contribution needed. And, if you start making monthly contributions now, they have the chance to grow sooner. Then, when you make a lump sum contribution, it will already have a larger nest egg to join.
If you make lump sum contributions, consider gift tax exclusion limits. Although the current exclusions are generous, keeping these limits in mind is important to avoid owing taxes on your gift. In 2024, the annual gift tax exclusion limit is $18,000 per recipient ($36,000 if married, giving jointly). However, you also have the option to superfund a 529 plan, which allows you to give more than this amount in a lump sum contribution and spread the contribution over up to 5 years for tax purposes.
Matching Contributions with Gifts
In a tight labor market, employers are competing for the best employees. Many employers are offering matching contributions as a benefit. You should ask your employer if they will match your contribution to your child’s 529 plan. That is an easy way to swell your savings.
Parents are not the only people who can contribute to 529 plans. You can also encourage grandparents, aunts, uncles, and other family members to contribute to your child’s 529. These could be gifts for birthdays, holidays, and other special occasions.
In many states, they can contribute directly to the fun, making giving and uplifting your savings easy. Consider a child who receives $100 for their birthday every year. If they deposit it into their 529 account, that $1,800 could become more than $3,000 to put towards college tuition.
Factors Influencing Contribution Amounts
When deciding how much to contribute to a 529 plan, it’s essential to consider several key factors. You can make informed decisions by understanding how each element impacts your overall savings plan. Ultimately, you want a plan that ensures you are maximizing the benefits of your 529 plan.
Age of the Beneficiary
One of the primary considerations for any parent saving for college is the age of the beneficiary. The younger the child, the more time your investments will have to grow. Compound interest will be able to work its magic, and there will be more time to counteract any down markets.
On the other hand, starting late may require a higher monthly contribution to enable you to reach your savings goal. Say you want to save $25,000. If you start when your child is three, you only have to put $86 a month away. However, if you wait until they are 13, your monthly contribution will jump to $357.
Expected Rate of Return
Another key part of the savings equation is the expected rate of return. The more you expect your investments to grow, the less you must put in out-of-pocket. Money in the account grows tax-free as long as you use any withdrawals for college costs.
Of course, investments with the potential to earn more also usually carry more risk. It would be best to always have a balanced investment allocation that aligns with your risk tolerance. It would be best to move your investments into safer categories as the child approaches college age. This is why most financial advisors recommend an age-based portfolio. There, 529 plans automatically reduce risk as the child gets older.
State Tax Incentives and Limits
As an added incentive to help families save, many states offer state income tax deductions, credits, and other tax benefits. This may allow you to contribute a bit more to your 529 plan each month. Check the rules surrounding 529 contributions in your specific state’s plan. You should also know that you can open a 529 account in any state to fund your child’s higher education.
Impact on Financial Aid
A financial aid package is going to be a major consideration for many students who are trying to choose between colleges. Understanding how 529 plans affect financial aid is thus crucial. Any funds in a 529 plan that a student owns will factor heavily in the college’s calculations, up to 20%. This may significantly reduce the amount of aid available. Your child may need student loans to make up the difference between their education savings and the total cost.
Funds that are in 529 plans that are owned by parents, on the other hand, are considered parental assets. They only are expected to make up 5.64% of the total cost. They will, therefore, have a much lower impact on financial aid eligibility. When families fill out FAFSA forms, these assets are assessed at a maximum rate of 5.64% in federal financial aid calculations. In most cases, the account owner of a 529 plan should be a parent, not the child herself.
Common Pitfalls to Avoid
When it comes to contributing to a 529 plan, it’s important to be mindful of several common pitfalls that can undermine your savings goals. By understanding and avoiding these common mistakes, you can create a more balanced and effective strategy. The goal is to ensure your child can attend college while still meeting your other obligations.
Overestimating Returns
Be realistic about the expected rate of return on your investments. Using a large number means less comes out of your pocket each month. On the other hand, overestimating returns can lead to underfunding the account. This could mean falling short of your savings goals.
Underfunding the 529 Plan
Too many people underfund their accounts. Some overestimate the expected rate of return, choose unwise investments, or fall victim to some other cause. However, one of the primary causes of an underfunded account is saving too little each month. It is wise to regularly review and adjust your balance and contributions to stay on track.
Nationwide, 529 Plan savings totaled $450.5 billion in June 2023. The average account balance was $27,741. Just three years prior, it was $30,652. This is a drop of 9.5%.
Disregarding Other Financial Priorities
College expenses are just one of the many financial responsibilities families face. While important to save for college, you should not neglect saving for retirement in a brokerage account, maintaining an emergency fund in a savings account, or other priorities. Balance your total annual contributions to ensure overall financial health as part of your complete financial planning efforts.
Determining how much to contribute to a 529 plan requires careful planning. You need to consider various factors, including
- future education costs
- your personal finance situation
- and savings goals.
By using tools like the College Savings Calculator and following the strategies outlined in this guide, you can make informed decisions and maximize your college savings efforts.
