For many families, college represents a special chance to learn deeply and prepare for a meaningful career. College also often comes with heavy financial costs, which can feel especially difficult to face in a recession.
With will-we-won’t-we recession buzz seemingly everywhere, this is a great time to review your savings and make any adjustments you need in your strategy to pay for your child’s education. You may even find there’s more you can do to keep on target through a recession than you expected.
As a refresher, you have a few options when it comes to saving for your child’s education. They work differently, so a recession can have a different impact on your savings depending on your plan type:
529 education savings plan: A 529 plan is the most common college savings account. Your contributions go into investment portfolios, typically mutual funds or exchange-traded fund (ETF) portfolios. A 529 plan offers tax-advantaged growth, and earnings aren’t subject to federal tax or state tax (in some cases) if you use withdrawals towards qualified education expenses. This includes things like tuition, textbooks, and even room and board in some cases.
529 prepaid tuition plan: With this plan, you lock in current tuition rates at a participating college and use the plan to pay for equivalent “units” or “credits” at the school at that rate, no matter what happens with rising tuition costs down the road.
Coverdell education savings account: This type of account is less popular than a 529 education savings plan, in part because of lower contribution limits (maximum $2,000 per beneficiary per year) and income restrictions (Coverdell plans are not available for people earning more than $110,000 for single filers or $220,000 for joint filers). A Coverdell account allows more qualified expenses in elementary school years and gives account holders more flexibility over their investing options, which can be attractive.
College already comes with a high price tag, and a stock market downturn or possible recession can make your stress levels worse. The good news is there may already be some safeguards in place to help mitigate your losses and protect your savings. Check your plan details and college timeline to see how likely a recession is to affect your plans.
People saving in a 529 prepaid tuition plan may have the most protection against stock market dips. You’re buying tuition credits at a fixed rate, rather than counting on investment growth to help you keep pace with tuition increases. A state 529 prepaid plan may still invest your contributions in the market, which can have an indirect impact on your savings. For example, it’s possible that some plans won’t be able to meet their liabilities because of poor investment performance; on the flip side, some plans have actually enjoyed surpluses when the market has been strong. About half of states’ 529 prepaid tuition plans offer some type of state government backing or guarantee.
Coverdell and 529 education savings accounts are more subject to market swings. A Coverdell account has a lower contribution limit, so it may represent a smaller portion of your savings. If you’ve used the Coverdell account to invest more aggressively (maximizing returns with higher-risk, higher-potential-reward stocks), that might result in bigger changes when the market is volatile.
A 529 plan is usually age-based or managed by the account holder (e.g., parents). If your plan is age-based, it automatically adjusts your investment mix from a more aggressive to more conservative portfolio as your child gets closer to college age. If you make adjustments yourself, talk to a financial advisor about your mix and timeline. Overall, there’s a good chance your 529 portfolio is already set up to help mitigate losses.
Recessions can be hard, but they tend to be short. The average post-WWII recession is about 11 months, and even the Great Recession officially lasted only 1.5 years. If college is more than a few years away, you likely have plenty of time for the market (and your college savings) to recover.
While it can be tempting to get your money out before your investments dip further, a knee-jerk reaction can cost you in multiple ways. Taking a withdrawal when the market is low means you solidify the loss. You won’t get the advantage of a market rebound, and you may get hit with taxes and penalties if you withdraw 529 funds for non-qualified expenses. The rule of thumb is to keep contributing steadily (buying low can mean getting greater returns when the market recovers), and if you can afford to hold off on withdrawing funds, it can be best to wait.
If your child is in college or enrolling soon, you’re in a more challenging situation. Again, hopefully, a more conservative investment mix is already working to protect your plan against major losses. If you’re concerned about your balance, it may be time to consider what alternatives exist to help you handle college costs, such as scholarships and financial aid.
Most families don’t pay for college solely through education plan savings. Student income, scholarships, grants, loans and other sources can play a role. Here are some options to adjust your plans if your college savings accounts are lower than you’d planned due to recession.
Tuition costs can give you sticker shock, but the reality is very few students pay full price. About 84 percent of college students receive some form of financial aid.
A financial advisor who specializes in navigating college costs can help your family make the best plan to choose a college, apply for aid and pay your contribution.
Student loan debt is a national crisis, and you shouldn’t take on loans for yourself or your child lightly. One possible aspect to consider is that you can use up to $10,000 of 529 funds to pay off student loans. You can also put $10,000 toward student loans for each of a beneficiary’s siblings. These options may give you some flexibility. For example, if the market is down when you need the money for tuition, you might choose to take out loans instead to give your investment time to recover—and then pay off those loans four years later using your 529 funds.
Even if college is coming up soon, it can be worth talking to a financial advisor about how to allocate your funds. Your child will spend several years in college, so you may even have time while they’re in school to experience a market recovery. A qualified advisor can talk about options that fit your risk tolerance.
Applying for an extra scholarship, asking your child to work to cover books and on-campus expenses or leaning harder on cash funds are alternative options to consider if possible. Leaning more on other sources now and tapping your college savings plan when the market is steadier may be a way to get more out of your returns.
Generally, experts don’t advise taking from retirement funds to make up the difference in college costs. Retirement, after all, doesn’t come with a financial aid department. It’s important to find ways to meet your child’s college expenses without jeopardizing your other essential financial goals.
There are many ways to pay for a college education. Keep contributing regularly and stay open to as many options as possible, and you may find your own best mix of resources to pay college costs, even in a recession.
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