Most parents don’t save for their children’s college education. In many cases, it isn't necessarily because they can’t or don’t want to, they just don’t know about the best methods available. While a general savings account can be useful to build a child’s college savings, the interest typically involved with these accounts doesn’t let the account grow to its full potential. So what are different types of accounts that you can use for saving for college?
One of the great benefits of saving money for college is that you avoid a lot of tax penalties when you want to withdraw the money. In many cases, you’ll be subject to very little taxes and withdrawal fees. If you have multiple children, it’s best to make college savings accounts for each child separately, that way it’s easier to keep track of the savings for each kid. These different types of accounts have their own advantages so it’s difficult to say that one's better than the other.
What are the best accounts for college savings?
The 529 plan is one of the most common types of accounts for those who want to save money for college. You can invest in different types of assets, but it’s common for people to invest in mutual funds with a 529. Investing in mutual funds keeps the portfolio diverse and your investments can offer much more return than a normal savings account.
If the money in a 529 plan is used for college education, then you don’t have to pay any taxes. However, it’s important to keep in mind that there can only be one beneficiary of a 529 plan. You can easily switch to a different beneficiary, but if you have multiple children, it’s best just to have an account for each child.
A custodial account is very similar to a 529 plan, except that it offers more flexibility when it comes to investing. The two common types of custodial accounts are Uniform Transfers to Minors Acts (UTMA) accounts and Uniform Gifts to Minors Acts (UGMA) accounts.
Both are very similar except that the UTMA can hold physical assets such as real estate and art. With a UGMA, the funds in the account automatically transfer to the child beneficiary when they turn 18. With a UGMA, you have more flexibility to decide when to transfer the funds.
Certificate of Deposits can be useful for college savings as well.
CDs (Certificate of Deposits) are more for short-term planning, like if you need to save up some money a few years before college starts. CDs are common graduation gifts since they offer a fixed interest rate on the initial investment for a designated duration. So, if you want to make a two-year certificate of deposit during your child’s sophomore year of high school, they can get the money and the interest accrued on top of that by the time they graduate.
CDs may not offer as much rate of return and will cost more when it comes to paying taxes compared to a 529 or custodial account, but the flexibility in the duration period makes it a feasible investment option.