Confronting the financial burden of higher education

Posted 8/8/01

Confronting the financial burden of higher education

Note: This concludes our five-part series of articles relating to retirement planning and investment.

By Danielle Strenke

Recently, the University of Minnesota announced a tuition hike of more than 13 percent next school year. If your children are just entering school now, the costs for post-secondary education for them will be daunting: estimates are that a four-year public school education could cost over $200,000 within 12 years.

Most people ó 90 percent of all college students ó rely on some form of financial aid and scholarships to fund their education. Another way to ensure that money will be there for your childís college education is through an Education IRA.

The Education IRA has one specific function ó socking away money to be withdrawn when you child enters post-secondary school.
A parent may invest up to $500 per child each year into an Education IRA, although next year, the limit will increase to $2,000. While the money is not tax-deductible as in other IRA investments, it is tax-deferred.
The biggest advantage in the program is when the money is withdrawn to use for school, it is not taxed at that time either. The student can continue to withdraw from the Education IRA until age 30, as long as they are still enrolled part-time or full-time in college courses.
If the money in an Education IRA is not used by the time the child is 30, it can be passed on to a younger sibling for their education.
Then there is the 529 college savings plan, introduced this year, which is another way for parents to save for their childís education. Unlike setting up traditional trust accounts for your child, a 529 plan is considered an asset of the parent, not the child.
Currently, earnings accumulate tax-deferred in a 529 plan, and beginning next year will be tax-free, as long as the money is used for post-secondary education.
The downside to a 529 plan is they are very limited in investment options. However, you can open one with very little invested, an amount as minimal as $15 a month can keep a 529 plan going. The 529 plans are set up by individual states, each having its own guidelines and rules.
There is also the Roth IRA, introduced by Senator William Roth of Delaware in 1998.
With a Roth IRA, parents can withdraw money without penalty and tax-free, for their childís education. The Roth IRA grows tax sheltered, and unlike a traditional IRA, earnings are not taxed when withdrawn.
One of the biggest advantages of a Roth IRA versus a traditional IRA is that there is not a required withdrawal of funds at retirement. In fact, all of the funds within a Roth IRA may remain there, and be transferred to beneficiaries upon the account ownerís death. Distributions to beneficiaries are also tax-free.
The Roth IRA also makes withdrawal before age 59 1/2 possible under certain conditions, similar to a 401(k).
In a traditional IRA, there are substantial penalties for early withdrawal. With the Roth IRA, penalty-free withdrawals can be made for the purpose of buying a home, or rebuilding a home. Funds can be withdrawn for the Roth IRA owners or their family members ó if you were contributing to your childís first home, for instance.
Funds can also be withdrawn for the use of post-secondary education. In both instances, withdrawals cannot exceed $10,000.
Salary limitations are attached to Roth IRAs. Individuals who earn more than $95,000, or couples who earn more than $150,000 are not eligible to open a Roth IRA.
Even if your child is at an age where they are working a part-time job and paying taxes, you should still have a Roth IRA in place for them, said Tracey Simonson of Investment Center of America in North Branch. Money from an existing IRA can easily be converted into a Roth IRA, although it is a taxable event.
Financial planning for your future is more important than ever. As our life expectancy increases, the burden of supporting ourselves financially for 20 or more years after retirement is a reality.
Taking the steps now to ensure that something will be there for your future can give you peace of mind and help eliminate at least one stress from your life.