College Fund Planning: A Step-By-Step Guide for Families

If you think college may be part of your child's future, it's important to start saving early. According to a 2021 Fidelity Investments survey,  high school students and parents often underestimate the cost of attending college. Many people believe that the cost for one year of school will be $5,000 or less. Unfortunately, the actual costs at both public and private 4-year universities are much higher. This highlights the importance of financial planning for higher education—often, much sooner than you’d think.

With that in mind, it can be tough to know where to start saving for college. This guide will help your family create a plan for college savings and begin stashing money away for your student’s education.

When Should You Start Saving?

Because the cost of education can be significant, your family should start saving as soon as possible. The best-case scenario is to set up a college savings plan before your child is born. Starting early gives you a longer time horizon for your investments to grow, allowing you to accumulate more funds.

No matter when you start, build a habit of making regular contributions to your college savings account. Even small monthly or annual contributions can add up over time. Plus, compound interest can further increase your savings.

How to Save for College

Depending on your risk tolerance and investment knowledge, you might choose different investment strategies for college savings. Early on, you may have a higher risk tolerance and invest more aggressively. As your child grows, reassess your savings plan. You may need to adjust your contributions based on changing circumstances, such as additional income or adding new family members. You might also choose to take a more conservative approach as your child approaches college age.

Finally, keep in mind that saving for college can impact your child’s eligibility for financial aid. While saving is important, consider the potential effect it might have on need-based aid. Talking to financial professionals can help you find the right strategy for your college fund.

Step 1: Determine How Much You’ll Need to Save for College

Understanding how much you need to save for college is the first step. Keep in mind that tuition typically rises over time. So, if you’re starting a savings plan for your toddler, the cost of tuition will be quite different in 15 years.

In addition to tuition and fees, students are also responsible for covering other expenses, such as housing, food and textbooks. These expenses can cost just as much as the tuition and fees, per year. Many universities offer estimated amounts for these expenses, so you can keep an eye on how the cost of living changes over time.

It’s also important to understand that college costs can vary widely. They depend on factors like the type of institution, the school’s location and financial aid packages. According to EducationData.org, the average cost of attendance (tuition and fees, plus room and board) at a ranked, in-state, 4-year public college for the 2023–2024 school year is approximately $26,027. For out-of-state students attending public colleges, the average cost is about $27,091. The average price at a private college is significantly higher, at around $55,840.

Also remember that the “sticker price” of college refers to the full rate of tuition and fees before financial aid, scholarships and other forms of assistance are accounted for. The net price is what a family actually pays after financial aid is applied.

If you’re setting up a college fund for your student, it’s best to aim high. Use tuition and housing estimates to ballpark a savings goal for the future. You can also use Navy Federal’s College Savings Calculator to determine your ultimate goal while factoring in investment returns.

Step 2: Explore Popular College Savings Plans

While the prospect of saving enough for college might feel overwhelming, there are several college savings options to consider. You can save for college in a standard savings account. However, there are accounts specifically designed for education savings that might offer additional benefits. These 3 are among the most popular choices for college-bound families.

Education Savings Account (ESA or Education IRA)

An Education Savings Account mirrors the structure of a Roth IRA, but is specifically designed for educational expenses. They are tax-advantaged savings accounts where you can save up for K-12 or college-related costs.

An ESA is typically opened by a parent or guardian for a designated beneficiary (often a child or grandchild). The child can also establish one, if they are of legal age. Each person can have one ESA account. The account holder maintains control over the ESA account and has the ability to change beneficiaries within the family.

In a given tax year, parents can contribute up to $2,000 per child. Contributions to an ESA are made using after-tax dollars, so there are no immediate federal tax deductions for contributions. However, the account’s growth and withdrawals come with significant tax benefits.

The earnings will grow tax-free as long as they’re used for qualified education expenses. If the funds aren’t used for education, they can be withdrawn, but earnings will be subject to income tax and a 10 percent penalty. Funds from an ESA can be used for qualified education expenses, including elementary, secondary and post-secondary education costs. This flexibility sets ESAs apart. They cover not only college expenses but also K-12 education.

ESA account holders can typically choose from a range of investment options, including stocks, bonds, mutual funds and more.

ESA plans have several advantages:

• Diverse investment options
• Tax-free growth
• Potentially higher returns than standard savings accounts

There are also certain drawbacks to consider:

• Annual contributions are capped at $2,000
• There are income limit qualifications
• Funds must be used by the student before they turn 30

529 Plan

If the ESA seems too restrictive on its own, adding a 529 plan as well may help. 529 savings plans are tax-advantaged investment accounts for future education expenses. Just like the ESA, 529s cover K-12 education, traditional college tuition, room and board, vocational schools and essentials like textbooks.

Typically, a parent or guardian opens a 529 plan account for a child. Each state in the U.S. offers its own 529 plan. You can choose any state’s plan, regardless of where you live.

The account holder makes contributions to the 529 plan using after-tax dollars. There are no federal income tax deductions for these contributions. However, some states offer state income tax deductions or credits for residents who contribute to their home state’s 529 plan.

Using the 529 plan, account holders can typically choose from a variety of investment options, such as mutual funds or other managed portfolios. The goal is for these investments to grow over time, helping to build a college fund.

One of the primary advantages of a 529 plan is that any earnings on the investments grow tax-free. When funds are withdrawn for qualified education expenses, both the principal and the earnings are tax-free at the federal level. Some states also provide tax benefits for withdrawals.

If you choose a 529 plan, you’ll get the most flexibility with plans that let you decide on your investment funds.

The advantages of 529s include:

• Higher aggregate contribution limits, sometimes up to $500,000
• Typically, no age or income restrictions
• Tax-free growth
• Transferability to other family members (some restrictions and penalties may apply)
• Ability to transfer unused funds into a Roth IRA, if the 529 has been open for at least 15 years

However, there are drawbacks:

• Possible restrictions on fund transfers between children
• Contributions exceeding $17,000 in 2023 may be subject to gift tax. You’ll need to pay attention to these limits, since they can change over time.

Custodial Accounts Using UTMA or UGMA

The Uniform Transfer to Minors Act (UTMA) or Uniform Gift to Minors Act (UGMA) should be considered after exhausting your ESA and 529 plan options. This plan is a type of custodial account meant to hold and manage assets for the benefit of a minor.

The key feature of these accounts is that they allow an adult to control and manage the assets on behalf of the minor until the child reaches a specified age. This age is often 18 or 21, depending on state laws. Any yearly contribution above $17,000 (or $34,000 for couples) is subject to a federal gift tax.

When the child reaches the specified age, the assets are transferred to their control. While the funds can be used for education, the beneficiary is entitled to use them for any purpose.

Custodial accounts are often used when individuals want to gift or transfer assets to a child but don’t want to use a dedicated education savings account like a 529 plan. These accounts provide flexibility in asset types and uses. However, the child gains full control of the assets at a relatively young age. This may not align with your specific education funding goals.

Custodial accounts have some benefits:

• Can be used for expenses beyond education
• No contribution limits
• Tax benefits for the contributor

On the other hand, parents and guardians should consider these drawbacks:

• The child gains complete control at a legal age, meaning they decide how the money is spent
• Once chosen, the beneficiary can’t be changed
• UTMA and UGMA accounts may hurt the student’s financial aid eligibility more than comparable 529 plans would

Step 3: Use College Saving Tips and Tricks

Once you’ve explored the different college savings plans available, choose one (or several) and start saving. No matter which plan you choose, you can use these tips to fund your student’s education more easily:

• Create a savings goal. Determine how much college could cost for your child. Focus on the net cost, which includes room, board and books. After you have an estimate, use online college savings calculators to set realistic savings goals. While the number may seem significant, it’s essential to have a target to work toward.
• Understand your Estimated Family Contribution (EFC). Federal and state programs will consider your EFC when awarding financial aid. Calculate your EFC using online tools to gauge your potential financial responsibility. Target schools that offer generous financial aid packages.
• Set up automatic deposits. Automate your savings by scheduling regular transfers to the college savings plan. Consistent saving is more effective than trying to save sporadically.
• Involve grandparents. Encourage grandparents to contribute to your student’s ESA or 529 plan. Some plans offer gift certificate forms for family members to contribute.
• Explore supplementary accounts. Consider programs like Upromise ^®, which rewards you with a percentage of your spending at various retailers with deposits into a college savings account. Invite family members to participate for additional contributions.
• Have honest conversations. Discuss your family’s capacity to pay for college with your student. Set clear expectations about your financial commitment and values regarding college funding.

Step 4: Find Ways to Trim College Costs

Even with a college fund plan in place, higher education can be expensive. Thankfully, you can find ways to cut down on the cost of college by planning ahead. Consider these ways your student can save money on tuition, fees, books and more:

• Look for part-time work. Encourage your student to work during the summer or part-time during the school year. Not only can a job help them save for college and personal expenses, it also provides great work experience.
• Open a savings account. Teach your student to save birthday money and allowances in their savings account rather than spending it impulsively. Many banks offer accounts for students with benefits like waived fees and no minimum balance requirements. While you handle the investments, your student can manage their savings. This is especially helpful if they are working part-time.
• Take AP or IB classes. High school students can earn college credits by taking Advanced Placement (AP) or International Baccalaureate^® (IB) classes and tests. These credits can reduce the number of courses your student needs to pay for in college.
• Search for scholarships. Students should seek scholarships based on their academic achievements, athletic abilities or extracurriculars. Even smaller awards can add up!
• Choose an affordable school. While prestigious universities may be appealing, in-state public schools often provide quality education at a fraction of the cost. Reduced expenses for room and board and travel can also make a significant difference.
• Apply for financial aid. Complete the Free Application for Federal Student Aid (FAFSA) to determine your eligibility for federal grants, work-study programs, state aid and institutional scholarships. Prioritize scholarships and grants over loans.
• Live at home. Students might consider living at home and commuting to college to save on room and board costs. They can also opt out of a campus meal plan and save money by eating at home.
• Look for tuition reimbursement opportunities. Some employers offer tuition reimbursement programs for their employees. If your student is working part-time while in college, look for jobs with this benefit to help cover educational costs.
• Start at a community college. By spending the first year or two at a community college, students may be able to transfer the accumulated credits to a 4-year university for the remainder of their college career.

It’s Never Too Early to Save for College

While the cost of college can be overwhelming, there are plenty of options to help reduce that burden. From creating college funds to choosing the best educational value possible, taking action now can help ensure your student is prepared for the future.

Ready to start saving? Navy Federal Credit Union offers several different college savings plans. It’s never too early—or too late—to set up your own savings account. Find out more by stopping by a local branch or exploring your options here.