College costs are up a gut-wrenching 121 percent since 2000 (while the overall cost of living rose 35 percent) and the average price of tuition and fees at private colleges for the 2013-2014 school year topped $30,000. What’s a parent to do?
Grandma and grandpa to the rescue!
More than half of grandparents (53 percent) are saving, or plan to start saving, to help pay for their grandkids’ college costs, according to Fidelity Investment’s new 2014 Grandparents and College Savings Study. (Fidelity surveyed 1,001 adults with at least one grandchild.)
“That’s a pretty good chunk of responses,” said Keith Bernhardt, Vice President of College Planning at Fidelity Investments.
(MORE: The Good News About College Costs)
And we’re not talking about forking over the $50 U.S. Savings Bond of yesteryear.
The grandparents who are saving for those college bills, or plan to, expect to contribute a median of $25,000 — and 35 percent figure on putting away $50,000 or more. A caveat: the sample skewed affluent, since Fidelity surveyed adults with average household incomes of $85,000.
In addition, 90 percent of the savers say they’d be likely to make a contribution to their grandchild’s college savings fund for special occasions instead of other gifts, if their adult child asks.
“This shows that grandparents need to be part of the conversation about paying for college,” said Bernhardt. “Parents should think about their own parents in this equation and know that many are willing to help out.”
(MORE: The High Cost of Being a Grandparent)
May I make a small request? If you’d like your parents to help fund your kid’s tuition, raise the subject gingerly and gratefully.
Bernhardt offers a suggestion: “In a tactful way, you might say to your parents that if you’re thinking about gifts, we’d love the gift of college savings. Every little bit helps.”
2 Ways Grandparents Can Help Pay Tuition
So if you’re a grandparent and want to help shoulder your grandchild’s future tuition bills, how should you do it?
Before answering that, a gentle reminder that you’re allowed to give up to $14,000 per grandchild ($28,000 for a married grandparent couple) in 2014 without incurring a gift tax.
Two possible ways to save for college: a 529 college savings plan or a custodial account (which is also known as a Uniform Gift to Minors Act or UGMA or a Uniform Transfers to Minors Act or UTMA). Each has pros and cons.
529 College Savings Plans
I was surprised to see that only 52 percent of grandparents in Fidelity’s survey were familiar with 529s, even though these savings plans have been around since 1998.
So here are the basics: Think of 529 plans as tax-sheltered mutual funds, run by states and administered by financial services firms, specifically for college. They offer particular investment choices, the earnings grow tax-deferred and withdrawals are free from federal taxes if they’re used for higher education expenses. Some states offer tax deductions for contributions, too.
Pull money out of a 529 for something other than college, however, and the earnings will be taxed as ordinary income. You’ll also be slapped with a 10 percent tax penalty on them.
(MORE: How to Save for College)
You're likely familiar with custodial accounts. They're offered by financial services firms and let you invest in pretty much whatever you want. The money doesn’t have to be used for college, although I'd recommend that if you open an account for tuition bills, you restrict it to that purpose.
There are no special tax breaks with a custodial account and once your grandchild turns 18 or 21, depending on the age of majority in the state, the money belongs to him or her. So your kindly gifts, intended for tuition, could wind up going towards your grandkid's splashy vacation.
Keep in mind, too, that UGMAs and UTMAs can sharply reduce your grandchild’s financial aid, since money in them is counted as the student’s asset when applying for loans and grants.
And here’s a little-known tidbit: Bernhardt notes that you can have a 529 plan within a custodial account. This way, you get the 529’s tax breaks and can retain control of the money until your grandchild reaches the age of majority.
2 Pros and a Con for 529s
One benefit of 529s, for grandparents, notes Bernhardt, is that you’re in control of them. You decide when, and how much, to withdraw and you can even change the beneficiary if you want.
So, for instance, if you have a 529 for granddaughter Chloe, but she decides not to go to college, you can then give the money to grandson Chris.
Another plus, for wealthy and generous grandparents: You can front-load a 529 plan and give up to five years’ worth of $14,000 gifts at one time ($70,000 per grandparent, per beneficiary) without running up against the gift tax.
Now the drawback: The financial aid penalty. Money withdrawn from a 529 for college is considered student income and “counted heavily” in financial aid formulas, said Bernhardt.
His advice to get around this? “You might want to hold off making 529 withdrawals until your grandchild’s senior year,” said Bernhardt, since he or she won’t be applying for aid after that.
Make It a Monthly Habit
If you do want to put money away for your grandchild’s future college bills, I’d suggest setting up an automatic program that funnels the same amount from your checking account into the 529 or custodial account every month.
This way, you won’t need to remember to make the gifts and you’ll likely find it easier to part with the cash in dribs and drabs than by writing a giant check once a year or so.
In Fidelity’s survey, 35 percent of the grandparents putting money away for college do it monthly.
A Final Tip For Grandparents
I’m delighted and a little surprised at the outpouring of generosity by grandparents towards their grandkids on the college front. But I confess to be a little concerned, too.
Grandparents: Please don’t put your retirement in jeopardy by being so kind to your grandkids that you harm your financial future.
As Bernhardt told me: “Grandparents need to understand that they won’t be able to get loans to help them out in retirement. You need to be careful and look at your own financial picture first and then focus on helping out the grandkids.”