Greenlight mom carrying daughter on shoulders while starting to invest for her daughter's college

Sep 22, 2022

How to save for college — with a 529 college savings plan

Key takeaways:

-The average cost of a college education in the United States is over $35,000 per year.

-With increasing college costs, many families start saving for college by opening a 529 college savings plan for their kids.

-A 529 college savings plan is a popular way to save money for college — but there are other ways to save, too — like investing in a brokerage account or applying for scholarships.

Kids grow up fast. One day you're walking them to their first day of kindergarten — and the next, they’re graduating high school. As parents, you want to be prepared for when it’s time to send them off to their next adventure. That’s why it’s important to have an education savings plan in place.

The true cost of college — and how you can prepare

Whether they decide to commute to their local community college or room and board at a university 500 miles away — you can prepare by starting to save now. It’s hard to know exactly how much to save for college, but knowing the cost of college today can help you estimate a range for the future.

Did you know that the average annual cost of college in the United States is $35,551 per student? If you add student loan interest and loss of income into the equation, the total cost of a bachelor’s degree can end up totaling over $500,000 — though, for many, it’s still a worthwhile investment.

Chart of annual cost of college for public and private 4-year in-state and out-of-state universities

While it sounds like a lot, Greenlight can help you get there. With a little bit of planning — you can put compound growth to work now to help pay for college later.  

What is a 529 college savings plan?

A 529 plan is a tax-advantaged investment account for college tuition and other related educational costs.

A few tax benefits that 529 plans offer are:

  • Your investments can grow tax-free since the earnings aren’t subjected to federal or state income taxes.

  • Withdrawals from this account won’t be taxed as long as the funds are used for qualified education purposes.

  • Certain states offer tax deductions or credits for any contributions made to 529 college savings plan accounts.

529 plans and tax benefits vary by state, so it’s recommended to speak with a financial professional to correctly compare state incentives.

How does a 529 college savings plan work?

Similar to a Roth IRA, the tax advantages of a 529 plan have significant benefits. So how does it work? Well, there are two types of 529 plans to choose from — a 529 savings plan and a 529 prepaid tuition plan.

The 529 savings plan is the most popular plan. Parents can use this plan to invest in different assets (stocks, bonds, mutual funds) and use the money earned for expenses at any college nationwide.

Greenlight investing icon with purple background and green arrow showing investing gains

Greenlight tip: The total amount saved in your child’s 529 account will ultimately depend on how much you contribute and how well your investments perform. 

What is a 529 prepaid tuition plan?

A 529 prepaid tuition plan is another 529 plan option. With this plan, parents are allowed to pay for their child’s future tuition at today’s price. Parents make fixed payments for a specific amount of time and the state locks in the cost of tuition.

However, many prepaid tuition plans are typically tied to in-state schools. So, if your teen chooses an institution that isn’t covered by the plan — like an out-of-state school or private college — you are still able to use your balance, but it may not cover the full cost.

Advantages and disadvantages of 529 plans

There are many advantages to opening a 529 plan for your child, including tax breaks and accessibility. However, some may say that 529 plans are limiting to teens that don’t want to attend college.

Advantages of 529 plans

The biggest advantage of using a 529 plan to pay for college is that the money won’t be taxed when you withdraw it. This means if your investments in a 529 plan grow to a large amount — like $100,000 or more — you can use all of it for your qualified expenses without worrying about the IRS.

529 plans are also available to any individual regardless of age or income — making them widely accessible. Some plans even offer portfolios with age-based investment plans, so you can invest on auto-pilot.

Disadvantages of 529 plans

On the other hand, money in a 529 plan is still limited to education expenses. This means if your teen decides to opt out of college, they won’t be able to use the money in their account without penalties and tax liabilities.

If the money in a 529 plan is used for a different purpose, you’ll have to pay taxes on any withdrawals, along with a 10% penalty.

And like any other investment, there will always be fees and risks associated. That’s why it’s important to read the fine print and know your risk tolerance. If the market drops significantly when you plan on making withdrawals, you could end up with less money than expected.

Now that we’ve weighed the pros and cons of 529 plans, let’s get into other investment options that aren’t limited to education expenses.

Is investing the best way to save for college?

Did you know that the average college student borrows more than $30,000 in student loans to attend school? Ouch! With compound interest — your total debt can grow in the long run. That’s why it’s important to build smarter saving habits early — and use the power of compounding to your advantage.

Investing allows you to do just that! With long-term investing, you’ll have a better chance of making money from your investments over time.

Greenlight mom doing yoga with peace of mind knowing she is investing for daughter's college

For example, let’s say you have $100 to start investing. If you invest that $100 and continue to contribute $20 each month for 10 years, you can end up with $5,936.62. That’s over $3,000 in earnings assuming that your account grows 14.7%* annually. That’s what we call the power of compounding.

And the best part? When you invest in a traditional brokerage account — like Greenlight's — you can use your earnings on anything. Education, travel, a business idea. You’re not limited to any education rules, but you will have to pay taxes. 

Ways to save for college: UGMA and UTMA accounts

In short, Uniform Gifts to Minors Act (UGMA) or Uniform Transfers to Minors Act (UTMA) are custodial accounts for minors — managed by parents until they reach adulthood — to receive financial gifts or transfers.

With UTMA and UGMA accounts, parents can contribute after-tax money to their child’s account up to $16,000 annually without incurring a gift tax. For married couples, the limitation doubles to $32,000 annually. However, it’s important to note that these accounts may affect your child’s financial aid eligibility when applying for financial aid through the FAFSA.

However, unlike college savings plans, there is no penalty if account assets aren't used to pay for college. Once the minor reaches adulthood, they will have full control of the assets in the account and can decide to use the money for anything they want.

Ways to save for college: Scholarships and grants

Scholarships are a type of financial aid awarded to students to help with educational expenses — such as tuition, books, room and board or transportation. Scholarships are typically awarded based upon specific qualifications, like academic or athletic achievements, diversity & inclusion or financial need.

Grants are similar to scholarships but are gifted by an entity grant – like the federal government, a public institution or a charitable foundation. Grants are typically given to students with financial need.

Greenlight tip: Neither scholarships nor grants need to be paid back.

Greenlight helps you save for their future

You can’t stop your kids from growing up so quickly. But you can use the magic of time (and compound growth) to make sure they’re financially prepared for their future.

Mom & daughter excited over college acceptance and start to invest for college with Greenlight

Whether they’re planning on going to college five minutes or 500 miles from home — you can start investing for their futures with Greenlight today. Try one month, on us!

*Rate of return chosen based on S&P 500 historic 10 year average.

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