As a parent, your biggest financial worry when your child is born is how to save enough money to help pay for college. Universities and state governments have come up with a lot of different ways to help parents save money for college. Some of the plans are 529 accounts, Coverdell accounts, Roth IRAs, and prepaid or guaranteed tuition costs. Unfortunately, few of the programmes offer all of the benefits, such as tax deductions, tax-deferred savings, unlimited investment options, self-directed investments, and no penalties.
Choosing a college is a big and expensive decision that shouldn't be made until the last two years of high school, in my opinion. One problem with plans based on a university or state, like a 529 account, is that they charge penalties if a child doesn't go to a certain university or live in a certain state. Who knows what skills, interests, or abilities your child might develop that would make them need to go to a school that is not in your state? University and state-based plans also have penalties if the money isn't used for qualified college costs in the end. This is another example of an event you can't control that may cause you to spend money you don't need. But the biggest problem with university and state programmes is that they change the financial rules after you've already started.
I think that both university and state-based programmes are a bad way for parents to save money. Even though they promise not to, if the cost of tuition goes up faster than expected, they will raise the price and leave you without enough money. On the other hand, if tuition goes up less than expected, you end up paying too much for it. And the same goes for plans that force you to invest in the stock market. When the market fell in 2000 and 2001, many plans broke their promise to pay for all of your tuition, even though they had said they would.
Another problem with state-based plans is that you can only invest in a few mutual funds that are run by the brokerage firm that manages your account. I've looked at a few and found that they have high fees and low returns, and I'm wary that many of them don't have much competition. The brokerage firms say that the lack of investment options is because of the economy. They say that most accounts are small and don't make them much money, so they want as little trading and customer interaction as possible.
The federal college savings plans are better because they offer the most investment options (like an educational Roth IRA or other education savings accounts) and can be used at almost any accredited college or university. These accounts offer growth that isn't taxed and withdrawals that aren't taxed by the federal government or some states. In all likelihood, your situation may require more than one account. If your income is more than a certain amount, you can't use these.
I think that U.S. government ibonds from TreasuryDirect.gov are the best way to start saving for college. These bonds give you the most freedom and control, and they don't have any of the rules and paperwork that other savings plans do. They earn a good rate of interest every month, the principal is adjusted for inflation every three months, you don't have to pay income tax on them right away, and there are no brokerage fees. When the money is taken out to pay for a college on their list, it can be redeemed tax-free. (Limiting rules say that you can't take the money out in the first year, and if you take it out in the first five years, you have to pay a three-month interest penalty. This means that ibonds aren't the best way to save for a child over the age of twelve.) Since ibonds are just a way to save money and not a way to pay for school, the money can be used for any kind of expense.
The government and brokerage firms keep making changes to these accounts, so I hope that my complaints will become less important soon. But there are some things you should look for: a lot of ways to invest, few penalties, no taxes, and full control. These will help you save as much money as possible for that expensive degree.
