Meeting the challenge of education funding

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Cooler days and nights and the approaching Labor Day weekend mean the start of a new school year is right around the corner.

While most kids head back to school with thoughts of “reading, writing and arithmetic” in their heads, parents and grandparents may have another thought: paying for their children’s and grandchildren’s educations. For some, the challenge is paying for private elementary, middle or high school right now, while others face the challenge of paying for college educations either now or in the future.

This challenge is made more difficult by the rising cost of going to college, which is increasing at an average annual rate almost 6 percent beyond the rate of general inflation. According to the College Board, the average cost of one year of tuition and fees (not including living expenses) at an in-state, four-year public university has risen more than 8 percent over the past year to $8,244. The total is $17,131 when you add in room and board.

Is the cost of a college education still worth it? Data released by the U.S. Census Bureau suggests the answer may be yes. A college graduate with a bachelor’s degree earns an average annual salary of $51,206, while a high school graduate without a college degree earns an average salary of just over half this: $27,915. Over a working career spanning 40 years, the difference in earning potential is nearly $1 million.

Of course, many college students access financial aid in the form of loans and grants to help pay for their educations. Scholarships - whether academic, athletic or arts - can also help ease the college tuition burden. But neither grants nor scholarships usually cover all college expenses, and loans must be paid back with interest. This can put a lot of financial pressure on new graduates just entering the professional workforce.

A gift that keeps giving

“As a parent or grandparent, a college education is one of the best gifts you can give your children or grandchildren,” says David Lerner, CEO of David Lerner Associates. “It’s a gift that may literally keep on giving for the rest of their lives. But in order to give this gift, you must commit to a disciplined college saving and investing plan - ideally, as early in your children’s or grandchildren’s lives as possible.”

The good news is there are several vehicles designed specifically to help parents and grandparents save and invest for education. They include these three popular options:

1. Section 529 Plans - Named after the section of the Internal Revenue Code that created them, these plans allow parents and grandparents to save and invest for college in a tax-efficient way. Funds in the account grow on a tax-deferred basis, and distributions are taken out tax-free for federal income taxes if the money is used to pay for qualified higher education costs. There may also be state tax benefits with Section 529 plans.

2. Coverdell Education Savings Accounts (ESAs) - Coverdell ESA contributions also grow on a tax-deferred basis and are withdrawn free of federal income taxes if they are used for qualified education expenses (including K-12 tuition, fees, books and supplies). The annual contribution limit is $2,000 per child or grandchild. Note, however, that the ability to contribute to a Coverdell ESA phases out for higher income parents and grandparents.

The biggest difference between Coverdell ESAs and Section 529 plans is that, unlike with 529s, the money in a Coverdell ESA doesn’t have to be used for education. If your child or grandchild doesn’t attend college or doesn’t need the money for college (for example, he or she receives scholarships and/or financial aid), the child will simply receive the money as a distribution.

3. Zero Coupon Municipal Bonds - These types of bonds can be a good choice for college saving because they do not accrue periodic interest payments like other bonds do. Instead, the full amount of the bond is paid out at maturity. This may enable parents and grandparents to structure the bond’s maturity so that it coincides with the start of a child or grandchild’s college education.

The David Lerner Associates Education Planner can help you figure out how much money you may need to save for your children’s or grandchildren’s college educations.