Sending children to college is now regarded as a middle-class birthright and the working class’s ticket to better things. No wonder, for college graduates can expect to earn an average of 65% more over a 40-year career than if they’d stopped after high school.
But with college costs rising faster than incomes, how can families hope to make it happen? In 2001, the average college-tuition bill came in at just under a quarter of median family income – a big bite. By 2010, it was nearly 40%, a much bigger bite. One rule of thumb says the rate of tuition inflation is about 8% a year, which means the cost of college actually doubles every nine years.
College for your kids may turn out to cost more than buying your home or business, so it’s important to focus on how, exactly how, you can maximize the money you save for it. If you haven’t already established a college savings account, such as a Coverdell ESA and/or a 529 prepaid tuition plan, do so as soon as you can – this week, if possible. (You can start a 529 account with as little as $25 and set up regular automatic deposits, even if they’re small.)
But that's just the beginning. Ideally, saving for college goes beyond budgeting and moves into long-range strategizing. Start looking at everything from housing to career choices to where you kick back on vacation through the lens of college costs and timing.
Housing Decisions Can Help You Pay for College
When baby makes three and you’re buying a bigger home, before you automatically go for the lower payments of a 30-year mortgage, think about choosing a 15-year loan instead. Look at the amortization tables on a mortgage calculator to see the impact on a house at your price. Use the current rates for 15 vs. 30 year mortgages; typically you’ll get a lower interest rate on the 15-year term by a point or more. With fewer payments than the 30-year, though, you will pay more every month. But you win very big on the other end of the loan because of the large amount of interest you didn’t have to pay.
Here's an example – for simplicity’s sake, we'll keep the interest rates the same: Imagine you're borrowing $165,000 on a $200,0000 house (the customary 20% down payment), with a mortgage of 4.75%. Pay it off in 15 years, at about $1500 a month, and it will cost you $65,500 in interest. With a 30-year term at the same rate, the monthly payments will be only about $1075, but the total interest will be $143,000. That’s well over twice as much! Best of all: You’ll have your 15-year mortgage paid off by the time that baby sets off for college.
Are you one of those families choosing the city over the suburbs? In older cities like Baltimore, Boston and San Francisco, where three-, four- and even five-story row houses are common, there’s a good supply of legal “live with income” two- or three-family houses, many in desirable neighborhoods. It may be a stretch for a young family to buy one, but the pay-off comes as the rental income rises over time. By the time your children head off to college, your tenants may be paying off your mortgage for you. The deduction for depreciation on the rental portion helps at tax-time, too.
Coordinate Career Strategies and Think as a Family
Actor/producer Karen Grenke and her husband, actor/director David Vining, were in their 30s when they got serious about having children. As theater professionals often must, they had been subsidizing their art by working hourly wage jobs that fit around rehearsals. David helped run a video rental store; Karen did research and fact-checking.
To them, thinking about kids meant rethinking almost everything else. Wisely, they’d bought their apartment after the housing bust, with a low-interest mortgage. Huge windows in the condo loft overlook its funky, emerging Brooklyn neighborhood – which has, however, never been known for having good schools.
Both Sarah Lawrence grads, the couple didn’t want to compromise on their someday-child’s education. Karen realized she needed a new career that would pay enough to cover childcare and education costs, but she wanted one with flexibility to accommodate her theater and family roles. “While I was producing a show,” she says, “I met an actor who was in grad school to get an MLS [Master of Library Science]. It just clicked, especially since my mother was a librarian.”
Karen earned her degree while continuing to work and act by stretching out the time frame. Her first MLS job was in a Manhattan branch of the public library. “When I became pregnant with twins, I thought it would be wonderful to be a private-school librarian in the same way that one thinks it would be wonderful to have an eight-bedroom apartment overlooking Central Park,” she says. Discounts for faculty and staff children are the tuition equivalent of a New York City rent-controlled apartment. Karen went after her goal and hit the jackpot.
“Fortuitously, I was able to secure a position at a wonderful [private] elementary school that also had an infant and toddler center and a preschool that my children could attend,” Karen says. That put a private-school education within reach, with money left over for college savings.
Stella and Harper are now almost three and looking ahead to starting pre-K in 2015. In the meantime, their dad has earned a master’s at the Bank Street Graduate School of Education, specializing in museum education. If David Vining ends up teaching on the college level, there could be a lifetime of tuition waivers for those twins.
Where You Work Can Make a Difference
Not everyone wants to be a professor or librarian, of course. The military offers family-education benefits in certain circumstances; under the Post 9/11 GI Bill, for instance, longtime service members may transfer education benefits to their children.
A small but growing number of private-sector employers will pay incentive bonuses directly into college-savings accounts, and a handful add matching funds. Some Silicon Valley giants subsidize employee housing. Micro-business owners and professionals can move to a state such as Pennsylvania where the 529 plan contributions yield tax deductions of as much as $26,000 per couple, or a state with a good public university system and favorable in-state tuition rates. Consider these factors in focusing a job hunt.
Turn Vacation and Recreation Funds into an Investment
There’s a tax deduction for home mortgage interest that you pass up if you rent your primary residence. If that feels like leaving money on the table, renters could consider buying a vacation home instead of spending on family trips. While taking the mortgage deduction, you and your family can build up equity, plus happy weekend and vacation memories at the lake house, instead of taking another trip to Disney World. A second home can be rented out for up to 14 days a year while you legally pocket the money tax-free.
As college approaches – and your teenagers want to spend more time on sports or weekend jobs and less time at the lake with Mom and Dad – you can turn that lake house into a rental, reserving up to two weeks a year for family time and maintenance on the property without compromising its tax status.That way you can sweep the extra income into a 529 account and deduct the expenses and depreciation on your taxes.
On the other hand, you may want to sell the vacation home entirely. Having a family-owned second home may lessen your child’s access to financial aid. In addition, the equity you’ve built could cover a big piece of the college costs left after your ESA or 529 account is tapped out.
You could also tap that equity by refinancing, of course. But if you’re leaning toward selling the place, think ahead about whether you can make it your primary residence for at least two out of the five years before you put it on the market. That lets you benefit from the $250,000 individual or $500,000 couple’s tax exclusion.
The Bottom Line
Committing to rigorous college savings plans and tough family financial strategies so long before college bills start coming may feel onerous. What it saves you –or your child– is paying off big loans and the interest on them. Lucky the child who walks out of the college gates without staggering under a huge load of student-loan debt.