The gap between college savings and costs is big, and it's likely to get bigger.
The well-publicized jump in college costs over the
last few years and the promotion of college savings options should be
putting a fire under the feet of parents to save and invest. Instead,
they are spending more on vacations and dining out than saving for
college, and their children are assuming more debt to make up the
That finding from a recent survey of 1,358 parents sponsored by AllianceBernstein comes as no surprise to college planning specialists. "Over the last few years, I've seen a widening gap between the amounts people have saved and what they will need to spend for college," says Rick Darvis, a college planning consultant in Plentywood, Mont. "There is also less financial aid to go around because more kids are going to college, and when students do get aid it is often in the form of loans."
Higher-income families or those with substantial assets are far from immune to the college savings crunch. Darvis recently worked with a New York physician who had $1 million in annual income and virtually no college savings. "Most of the families I deal with have six-figure incomes and only a small percentage come anywhere near covering all four years of college," says Deborah Fox, founder of Fox College Funding in San Diego. "It seems that families have become focused only on things that are on the front burner and are more likely to procrastinate than ever."
The study also notes that parents with children ages 14 to 17 plan to have an average of $12,000 saved when their child reaches college age, at a time when the projected cost of four years at a private college for a 17-year-old will be $131,361. The gap between planned savings and projected college costs widens further for parents of children ages five and under, who plan to have $25,000 saved to cover a projected cost of over $235,000 for a private university by the time their pre-schoolers graduate high school.
Another survey by the firm indicates that student debt is having a profound impact on financial choices ranging from the purchase of a home to the ability to invest. Of the 200 financial aid administrators interviewed, 94% expressed concern about the amount of debt students have been taking on to fund their educations, and almost all of them think that both the percentage of students who graduate from college with debt and the amount they borrow will grow.
Washington To The Rescue?
Recent legislation and trends could give college savings programs a shot in the arm.
The Pension Protection Act, passed in mid-August, gave a push to 529 college savings plans by making permanent the tax-free treatment of distributions used to pay for qualified higher education expenses. The favorable treatment had been scheduled to expire in 2010. Sales of 529 plans dropped slightly in 2005, in part because the uncertainty surrounding the 2010 expiration of tax benefits proved a deterrent for advisors, says Brian Boswell, a research analyst at Financial Research Corporation in Boston.
"The Pension Protection Act will benefit 529 sales," says Boswell. "It may not have an immediate impact, but it will have one over time." FRC projects the plans will hold some $257 billion in assets by 2011, compared to $77.3 billion in mid-2006.
At the same time, eased disclosure requirements, lower expenses and more investment options are making the plans more attractive, he adds. "Advisors have become disenfranchised with 529 plans. They're typically not a big-ticket item, and they were difficult to explain. Hopefully, people will take another look at them."
Other legislation passed in May, the Tax Increase Prevention and Reconciliation Act of 2005 (TIPRA), makes 529 plans comparatively more attractive for some people than custodial accounts by raising the "kiddie tax" age. Previously, income from investments held in a child's name that exceeded $1,700 was taxed at the parent's rate until the year children reached age 14. The law raises the age at which the kiddie tax disappears to 18, increasing the likelihood that some families with high school age children will be exposed to it.
On the other hand, TIPRA has given parents or grandparents who are considering transferring stock or other assets to children at or near college age an added incentive to do so. From 2008 through 2010, taxpayers in the 10% or 15% tax brackets can sell appreciated assets without paying capital gains taxes. So if a child in those tax brackets sells the gifted assets after reaching age 18, he or she avoids the kiddie tax and pays no capital gains tax.
Other trends bode well for college savings. Many people saw their college savings cut in half after the devastating bear market in 2000, and those with children already in college had to struggle to make up the shortfall. Today's stock market, while by no means a sure bet, appears less frothy and more benign than the heady days before the crash.
Perhaps sensing some parent backlash, colleges have recently slowed their rate of inflation. Costs rose about 5% at private colleges and 6% at public universities for the most recent academic year, less than half the double digit increases that prevailed in the earlier part of the decade.
Getting On Track
Even with tax breaks increasing and cost increases taking a breather, motivating parents to save for a goal that can seem out of reach remains a challenge. Some advice from college planning specialists:
Don't scare people into inaction. Using the published prices of four years at an elite private school as a savings goal will only scare people into doing nothing at all, say experts. The cost of college may be considerably less than that. Despite cutbacks, grant aid from federal and state governments, institutional funds and private sources still lowers the net price for a majority of college students, while benefits from federal education tax credits and deductions also reduce the costs students and their families incur.
In 2006-2007, reports CollegeBoard, the average net price paid by full-time students enrolled at a four-year public college in their home state is $2,700, compared to averaged published tuition and fees of $5,836. For students at private colleges, the average net price is $13,200, compared to a published cost $22,218.
Consider whether need-based financial aid is likely when doing projections. Such aid is possible at a public university for families with less than $80,000 in adjusted gross income, or at private colleges if family income is less than around $130,000, according to Gary Carpenter, executive director of the National Institute of Certified College Planners. Although it may be difficult to determine whether parents will qualify ten or 15 years down the road, a family's current status provides a starting point for discussion, he says.
Ask who can pitch in. Projected costs also come down if kids pitch in with earnings from employment or loans. Getting children to foot some of the bill is a good idea even if money is not an issue, says Carpenter. "I always tell my clients that their children should pay for some part of their education, even if their parents end up paying back student loans after graduation," he says. "It means more to them if they have a financial stake."
At the other end of the age spectrum, grandparents are sometimes willing to step in. "We see more and more situations where grandparents play a role, even though they may come in at the eleventh hour," says Carpenter. "It's often easier for clients to address the topic with their parents if they can say a financial advisor has asked them about it."
Joe Tocyloski, a regional manager for AllianceBernstein, says grandparents are "probably the least-tapped area for advisors. About 40% of our 529 plan sales occur during the last three months of the year, and a good part of that comes from grandparents who are using gifting strategies."
Get creative. Strategies that go beyond traditional advice, such as investing in 529 plans or opening a UTMA account, can stretch college dollars, particularly when children are in high school and their parent's don't have much time left to save. "Gifting appreciated assets, shifting income and making the most of tax benefits can dramatically lower college expenses, yet a lot of advisors don't recommend these strategies," says Fox, who believes the industry should be doing more to educate advisors about such options. "I was just at an FPA convention and there wasn't a single session on education planning. The course curriculum for the CFP designation is also very light on the topic."
Don't let parents sacrifice retirement. Parents in their forties with children going to college and decades of working years ahead of them are probably better able to shoulder more expenses and borrow more than parents in their fifties or sixties who are nearing retirement and have a limited number of years to recover from college costs.
"You can't let the college tail wag the retirement dog," says Darvis. "Kids can borrow for school, but parents can't borrow for retirement."