College savings options still plentiful
10/10/2003Ohio's decision this week to suspend its prepaid tuition program still leaves parents with plenty of options to fund their child's college education.
The best bet is a tax-deferred savings plan, although which one should depend on income levels, say local financial and tax experts.
Michael Hood, with American Express Financial Advisors Inc. in Toledo, said he has been steering clients away from the state program because tuition increases had forced officials of the Ohio Tuition Trust Authority to raise the cost of the fund's credits nine times in the last two years.
“A lot of states had been suspending or eliminating their programs - some even gave the money back - so we knew this was coming,” said Mr. Hood.
The Ohio Tuition Trust Authority this week voted to suspend new enrollment in the prepaid tuition program, citing investment returns that have not kept up with college tuition rates.
Instead, Mr. Hood has been pushing the Coverdell Education Savings Account (formerly called the Education IRA), or the Section 529 college-savings plan.
The Coverdell plan allows a family to put up to $2,000 per year into an account that can be used to pay for elementary, high school or college. There's no tax on the interest earned until money is withdrawn and principal and interest is tax-free if the money is used for educational expenses.
But the plan is limited because only $2,000 a year can be contributed and because upper income people are restricted. To be able to contribute the full amount, a single person must make under $95,000 and a couple filing jointly must make less than $195,000.
Mark Ferris, a certified financial planner with Wilcox Financial in Toledo, called the Section 529 plans offered by most states as the “the best thing we've got going for college education.”
Under such plans, most of the money going in is deductible from state income taxes, plus withdrawals to pay for college tuition, room and board, and other costs is exempt from federal taxes. In Ohio, Michigan, and most other states, the withdrawals also are exempt from state tax.
Ohio has contracted with the Putnam family of funds to offer choices of investment programs, including one that provides a guaranteed interest rate.
“Most people invest depending on what the equity markets are doing at the time,” Mr. Ferris said. “The majority of people do the age-based allocation. If it's a younger kid, they have more equity exposure and it automatically adjusts to more fixed-income funds as the child gets older.”
The financial planners said the Section 529 can be used as an estate planning tool because anyone can contribute, including parents, grandparents, aunts, and uncles. There's a limit of $250,000.
“Grandparents, for example, can gift $11,000 a year into it. People need to know there's a lot of different ways to get money out of their estate,” said Mr. Hood, of American Express.
Wilcox Financial's Mr. Ferris said: “A lot of people just put in $2,000 a year because that's the amount you can deduct off your state income tax return.”
Once children are in college, there are still ways to ease the financial burden, said Sally Tarrant, who works in the tax compliance area at accounting giant Ernst & Young in Toledo.
She urges parents to take advantage of education tax credits, including the Hope and Lifetime Learning credits, which allow a dollar-for-dollar deduction against a family's income tax liability.
The Hope credit, for example, can be taken during the first two years of college for tuition and fees and can be as much as $1,500 for a family making up to $82,000, she said.
The Lifetime learning credit is 20 percent of qualified expenses up to a maximum of $5,000, or a total of $1,000, Ms. Tarrant said.
Finally, she said, parents can opt to give stock to their child for use in paying for college, and the child can then sell it and pay less capital gains tax than an adult would pay.