Mother and Child talking about college financial planning

July 24, 2019

Think You're Too Late for a 529 Plan? Think Again

Like any parent with pre-college age children, you've likely been exposed to repeated messages about the importance of setting money aside to help your kids afford higher education.

This is not surprising when you consider the average annual cost for tuition, fees, room and board at a four-year private college will be approaching the $400,000 mark, according to projections based on data from The College Board.

Paying for higher education is a prominent financial issue for many families, which is why starting early and saving regularly can help give you additional leverage to grow assets and offset some of the financial burden. And utilizing a tax-advantaged 529 savings plan ⁠— even if that means starting one just a few years before your kids graduate from high school ⁠— may be an effective tool to build a college nest egg.

“Just because you haven't started saving in a 529 to this point doesn't mean you should forego the valuable benefits," said Angie O'Leary, head of wealth planning at RBC Wealth Management-U.S. in Minneapolis.

While those who start saving for college early reap the benefits of compounding interest, there are still significant benefits to starting a 529 plan later in your child's life.

Tax Savings Still Count

You may have to follow a more conservative investment path with a 529 plan if college is fast approaching for your child. Still, it's likely to be worthwhile, according to Paul DeLauro, head of Wealth Planning for City National Bank.

“If your kid has just started college and you haven't opened a 529, even getting two-to-three years of potentially tax-free growth in the account can be helpful," he said.

"Engage your village," O'Leary also recommended. "Forgoing material gifts and inviting others to contribute to the fund is a great way for extended family and friends to show the value of a higher education."

This can include family members — such as grandparents, aunts and uncles of the beneficiary — who by gifting can turn those dollars into tax-advantaged contributions. Depending on what state they live in, it's possible these contributors may be able to claim a deduction on their own state tax return.

If you have a pool of money sitting in a taxable savings or investment account, it may also be used to fund a 529 plan. One option, if you hold assets that are subject to capital gains taxes when sold, is to gift those assets to a child who's likely to be in a lower tax bracket. The child can then sell the assets at a lower capital gains tax rate (possibly even qualifying for a zero percent rate) and put the proceeds into a 529 plan (as long as the child is age 18 or older).

Leveraging the Flexibility of a 529 Plan

“Even if you start saving late in the game," said DeLauro, “a 529 may have longer-term benefits you didn't initially anticipate."

Rather than using accumulated assets to help defray education expenses for your own children, for example, the money may instead be allowed to accumulate and be applied toward college expenses far into the future. For example, said DeLauro, if a child decides to pursue a graduate degree, that can extend the potential time horizon for the funds in the 529 plan to grow.

DeLauro pointed out the flexibility of 529 plans may also allow you to think beyond just the immediate potential needs for college. The scope of these plans expanded with the Tax Cut and Jobs Act (enacted in 2017). Today, funds accumulated in 529 plans may also be used for elementary and high school education expenses.

“Another option is to set aside as much as you can afford now and let that money grow over a much longer timeframe," said DeLauro. “Ultimately, assets accumulated in the account could be used to help fund education costs for your grandchildren."

Quite simply, according to DeLauro, don't discount the possibility that, while you may be late in saving for the current generation, you can get a head start on the next generation's education expenses.

When a 529 Plan May Not Be Enough

Even with generous contributions from yourself and others, personal savings, money accumulated in a 529 plan and annual cash flow may not cover the cost of college in a given year.

The financial challenge can be even more severe for families with multiple kids in college, particularly if parents want to avoid making their child take on student loan debt.

A valuable funding source in addition to a 529 plan, said O'Leary, is for parents to utilize their own line of credit.

“It is realistic for parents funding higher education for one or more children to come up short or have liquidity challenges," she says. “A line of credit may offer a more cost-effective way for families to borrow money to fill in any gaps and avoid traditional student loans."

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This article is a republication of content originally published by RBC Wealth Management, a division of RBC Capital Markets, LLC, Member NYSE/FINRA/SIPC. © 2019, Royal Bank of Canada, used with permission. City National Bank is an affiliate of RBC Wealth Management.

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