College savings accounts: Types and tips to choose the right one

It’s never too early to start saving for your child’s education. Starting a college fund today is one of the best ways to help them pay for college without loans in the future.

But where should you start? With so many types of college savings accounts available, how can you decide which is the best choice for your family? Here’s a breakdown of a few popular college savings plans, plus their pros and cons, to help you get a head start on your child’s education expenses.

529 Plans: An overview

529 plans are among the most common ways to save money for college. These are tax-advantaged investment accounts, meaning your savings will grow tax-free until your teen is ready for college. Any withdrawals from the account are also tax-free as long as they’re used for a qualified expense, such as:

• Tuition

• Room and board

• Education-related fees

• Books and supplies

If you’re thinking of opening a 529 plan, start by talking to a local financial advisor — certain states offer additional tax deductions and credits you might be able to take advantage of.

Education savings plan: Investing for college expenses

Be a financially smart family!

Be a financially smart family!

From saving for the future to understanding credit, see how families are thriving with Greenlight.

Try Greenlight today

Education savings plans are the more common type of 529 account. With this type of plan, the account holder — generally a parent or relative of the future student — contributes money to an investment account. 

Prepaid tuition plan: Locking in today’s tuition rates

Prepaid tuition plans are college savings accounts that let you lock in the current tuition rate at a few select colleges or universities. That means when your child reaches college age, they can attend that college at the rate at which you originally started saving. However, these plans are not available in all states.

Coverdell Education Savings Accounts: More than just college

If you’re looking for the best type of account for college savings but also want to make sure your child’s education expenses are covered before they get to college, consider a Coverdell ESA.

These plans are similar to 529 plans but also offer qualified withdrawals for certain K-12 expenses. Those include:

• Tuition and fees for private schools

• Books

• School supplies

One downside of a Coverdell ESA plan is that you can’t contribute after the beneficiary turns 18. In addition, anything you contribute is eventually distributed to your child even if they decide not to use the funds for education, giving you a little less control than most 529 plans. You can withdraw these funds early in case of an emergency, but not without incurring penalties and taxes.  

UGMA/UTMA custodial accounts: Flexible savings for minors

A custodial account can be a good option if you don’t want your savings to be limited to college expenses. Both UGMA (Uniform Gifts to Minors Act) and UTMA (Uniform Transfers to Minors Act) accounts hold savings until a minor reaches adulthood. 

Custodial accounts are not tax-advantaged like 529 plans. However, they are one of the best types of college savings accounts if you’re looking for flexibility and want to give your child complete control of their funds. 

Roth IRAs: Saving for retirement and education

You might already have a Roth IRA for your retirement savings. But did you know you can also use it as a college savings account? Roth IRA funds are tax-free when you withdraw them after age 59 ½, meaning — depending on your age — you can use those funds to pay for student loans or tuition when your child is an adult. 

If your child needs to use their college savings before you reach retirement age, you can distribute your contributions early. You might be able to avoid penalties on your earnings if the account is less than five years old and you’re using the funds for a qualified education expense. If the account is more than five years old, you’ll have to pay taxes and penalties on your earnings for an early withdrawal.

High-yield savings accounts: A flexible approach

High-yield savings accounts are a great option for any kind of long-term savings, including college tuition. They offer a higher annual percentage yield than traditional savings accounts. While they might not accrue as much as a 529 or other investment accounts, you can withdraw funds from a high-yield savings account any time and for any purpose. 

Considerations when choosing a college savings account

Here are a few things to consider when comparing different types of college savings accounts:

• Tax advantages: Tax-advantaged accounts can boost your total savings but come with limitations. 

• Qualified expenses: Some account types only allow you to spend your savings on certain education-related expenses, such as tuition, fees, and books.

• Limits and flexibility: Do you want your teen to be able to spend their savings on something other than formal education if that’s what they choose? High-yield and traditional savings accounts offer the most flexibility with few or no contribution limits.

• Withdrawal penalties: Certain types of college savings accounts come with penalties if you withdraw your funds too early or use them for a purpose other than education.

Combining multiple college savings accounts

Remember that you don’t have to choose just one type of college savings account. Using multiple accounts can give you a little more flexibility while maximizing your savings. 

For example, if you want the tax-advantaged savings of a 529 plan but also want to make sure your kid has the option to spend their funds on travel, a home purchase, an emergency, or another expense, you can open a 529 and set aside savings in a custodial account. You can also save for your child’s future with:

• High-yield savings accounts

• Traditional savings accounts

• Bonds and mutual funds

Determining the best college savings account for your goals

There is no such thing as the best type of savings account for college for everyone. Each account type offers its own benefits and drawbacks — it all comes down to what’s best for your family.

When you start comparing college savings accounts, consider these factors:

• Your current financial situation: If you don’t have much spare change to set aside right now, consider making small contributions to a single, stable account like a 529 plan.

• Your long-term goals: How long do you have to save before your child starts college? Consider your family’s 5-, 10-, and 20-year plans to choose the best savings options to meet your goals.

Start saving with your kids 

Saving for college tuition isn’t the only way to help kids prepare for a financially healthy future. If you want them to save money in college and develop smart financial habits, now is the time to get started.

Greenlight’s money and safety app for families is a great tool to teach your kids about money management. It allows them to save and even invest* their own money with your approval. When kids learn how to manage their finances early on, they’re more likely to make smart choices in college — or wherever life takes them.

*©2024 Greenlight Investment Advisors, LLC, an SEC Registered Investment Advisor provides investment advisory services to its clients. Investing involves risk and may include the loss of principal.