One of the most common financial questions parents have is how to save enough money to pay for their child’s college education.
Here are the five steps for parents to follow if they want to help their kids pay for college.
Step 1: Get a solid handle on your own finances first.
Step 2: Come up with an estimate of what college might cost by the time your child graduates from high school.
Step 3: Decide how much of that cost you want to help pay for.
Step 4: Build your savings plan and leverage government-sponsored education savings programs.
Step 5: Bring your child in on the plan and find ways for them to help bring the cost down.
This article will act as a guide to help you develop a savings plan to help cover the cost of your child’s post-secondary education.
College is expensive
Here are a few stats on how expensive college is these days.
In 1988, the annual tuition for a 4-year public institution was $3,190.In 2018, the annual tuition for a 4-year public institution was $9,970.
That is a 212% increase, adjusted for inflation.
In 1988, the annual tuition for a 4-year private institution was $15,160.In 2018, the annual tuition for a 4-year private institution was $34,740.
That is a 129% increase adjusted for inflation.
As the cost to attend college has skyrocketed, so has student loan debt.
7 out of 10 college students graduate with student loan debt.
The average student loan balance is more than $37,000.
Total student debt is more than $1.5 Trillion.
But formal education can still be a good investment
Here are some stats from the Social Security Administration for you to consider.
Men with bachelor’s degrees earn $900,000 more lifetime earnings than men with only a high school degree.
Women with bachelor’s degrees earn $630,000 more than women with only a high school degree.
Men with graduate degrees earn $1.5 million more lifetime earnings than men with only high school degrees.
Women with graduate degrees earn $1.1 million more lifetime earnings than women with only high school degrees.
Step 1: Put your own oxygen mask on first
Before you save a penny for your child’s education, the first thing you need to do is ask yourself if you are in a financial position to do so?
In the same way flight, attendants advise you to put your own oxygen mask on before helping someone else, you must get your own financial house in order before helping someone else with their finances.
Prioritizing saving for your child’s education over your own financial priorities might spare your child from student debt. On the other hand, if you reach old age, and have nothing saved for retirement, guess who it will fall on to financially support you? You’re adult child.
As someone who has dealt with both student loans and financially supporting a parent, I can tell you with absolute certainty that the student loans were less of a burden.
Here are three financial priorities you must address before saving for a child’s education.
Have a fully funded financial emergency fund.
Have all consumer debt paid off.
Saving enough to one day be able to retire.
Once you have these three goals taken care of, you can move on to other financial priorities, like saving for a child.
Step 2: Figure out how much college will cost for your child
The cost of a 4-year college degree has been steadily rising for decades. This makes it very difficult to know how much college will cost by the time your kid graduates high school. However, there are several variables we can use to get in the ballpark.
What type of school/education program you expect they will attend.
Where that school is located.
The current cost of tuition, books, room, and board.
The assumed rate of inflation for the cost of college.
What type of school or educational program you expect your child to attend
The most critical variable in estimating the cost of post-secondary education is what type of education you expect your child to enroll in.
The cost of a 4-year college program is very different than if they were to trade school. For the purposes of this article, I’ll assume you are saving for a 4-year college program, but you can easily follow a similar process regardless of what type of education you expect your child to enroll in.
Where that college is located
Where the college or university is located will have a massive impact on the expected cost for your child to attend.
For a Canadian student, attending University in Canada, here are the average annual costs of a 4-year degree program according to research from the Globe & Mail.
Tuition: $6,463.
Books & supplies: $1,000 .
Residence and meal plan (room and board): $10,500.
Total baseline cost: $17,963 per year.
Estimated cost for four years: $71,852
Note that this does not even include the cost of cell phones, transportation, or entertainment. If you plan on covering those costs when your child goes to school, you’ll need to save for that too.
For students in the U.S, the most significant variable that impacts costs will be whether your child attends a state school or a private college.
Here is the difference in costs according to a report from Northwestern Mutual (both numbers include room and board.)
The annual cost for an in-state student attending state college: $21,950 per year or $87,800 for four years.
The annual cost for a U.S student attending a private school: $49,870 per year or $199,480 for four years.
All of these costs assume the students are domestic. If your child attends a school in a foreign country, be prepared to pay additional fees and account for the different values of currencies. Given how complicated that can get, we will assume for the purposes of this article, your child will attend a domestic school.
Here are the three estimated costs of getting a 4-year degree in North America.
$71,852 for Canadian students.
$87,800 for in-state students in the U.S attending a state school.
$199,480 for a U.S student attending a private school.
Given most of my readers are in the U.S, we will assume for the rest of this article that your child is American and plans on attending an in-state school.
That means the total estimated cost of a four-year degree today is estimated to be $87,800.
Accounting for inflation
Unless your child is attending school this year, the average cost is likely to increase by the time your child graduates high school.
For the purposes of this article, we will assume the cost of attending school increases by 3% per year.
We will also assume that your child was just born and won’t be attending school in 18 years.
Given these assumptions, we would expect the cost of a 4-year degree to be $149,474 in 18 years.
Decide how much of that cost you want to help pay for
If you had a mini-panic attack looking at the $150,000 estimated future cost of a 4-year degree, remember that you don’t have to pay for the entire cost of your child’s education. It’s rare that parents can cover the entire cost, and as we will discuss soon, there are ways to bring that cost down.
That being said, for the purposes of this article, we will assume that you do plan on covering 100% of the cost of your child’s education. The simple reason for this assumption is so that you can see how much you would need to save to completely cover the cost of a 4-year degree. The less of the total cost you plan on covering, the less you would need to save.
Build your savings plan
Here is a list of all the assumptions we are making to figure out how much you would need to save each month to pay for your 4-year degree.
The child was just born and will attend college at age 18.
The expected future cost of a 4-year degree will be $149,474.
The expected return on your investment will be 5%.
You currently have $1,000 already saved.
Given the above assumptions, you would need to save $421 per month for the next 18 years to pay for all of your child’s future education costs.
Where to put education savings
Once you figure out how much you need to start saving, the next step is to determine where you are going to save that money.
If you live in Canada, you might consider setting up a Registered Education Savings Plan (RESP) for your child. If you meet eligibility requirements, the government will match a portion of your contributions, making it much easier to achieve your savings goal.
If you live in the U.S, you might consider setting up a 529 plan, which is a tax-advantaged savings plan which is designed to help parents save for the costs of their child’s education.
If you live outside of the U.S & Canada, you should research if your country offers similar savings plans designed to help parents save for education costs.
How to invest education savings
A common question parents have is how aggressive they should invest their child’s education savings. It is a tricker decision than you might think.
The more aggressive you invest, the higher your expected return, and less you would likely need to save. However, a market crash at the wrong time could potentially wipe out much of your child’s education costs if you are 100% in stocks.
If you are not aggressive at all in your investments, you can avoid the nightmare of a market crash at the worst time. However, your annual return may be so low that it does not even keep pace with inflation. This means you would need to plan to save a lot more each month to hit your savings goal.
What is a parent to do?
One starting point might be the 10-year rule of thumb; If you don’t need money you are saving today for 10-years or longer, you can afford to take more risk by investing in stocks.
Here is what we can take away from the 10-year rule.
When your child is young, you can afford to take more risk and invest in stocks to hopefully get a higher rate of return in the early years of saving. If the market takes a nosedive, you’ll still have at least a decade for your investments to recover.
Once your child is within 10-years of when you expect they will enroll in college, you should begin “de-risking” your portfolio, which means rebalancing and slowing phasing out of risky assets like stocks, into less volatile assets like bonds.
Bring your child in on your plan
As your child gets older and more mature, make them a part of the savings plan.
Let them know how much you have been saving.
Explain to them how much it might cost for their education.
Tell them how much of that cost you are covering and how much they will have to pay for themselves, possibly through student loans.
My son is 5 months old, and my wife and I are maxing out his RESP with the plans of fully covering his future education costs. Once he starts high school, we plan on sitting him down and walking him through everything we had been doing to ensure his college fund is fully funded by the time he graduates high school.
We will also encourage him to do his part.
We will encourage him to take what are called “Advanced Placement” exams in high school. These exams can grant University-level credits, potentially lowering the cost of his education.
Additionally, we will ensure that he applies for every possible scholarship and bursary opportunity. Every penny he can secure will directly reduce the cost of his education.
As an economist, I understand the power of incentives. So, we plan on making the following deal with our son.
Every dollar of his own that he puts away for college savings, we will match. This is in addition to what we are already saving for him.
If we have a surplus in his college fund, we will use that surplus to help him buy a house, start a business, or invest.
This gives him the incentive to put his own savings away, take as many AP classes as possible, and apply for every scholarship and bursary out there. Not only will it maximize his chances of having his entire education paid for, but it will also mean he might have a pool of money waiting for him when he graduates, giving him a significant head start on his own journey to financial independence.
Saving for a child education does not need to be complicated
If you are thinking of saving for your child’s future education costs, remember the few steps we have discussed in this article.
Before you start saving for your child’s education, make sure you have all of your own personal finances under control.
Do your research and figure out how much you expect it will cost to fund your child’s future education. This will be highly dependent on what type of education they pursue and where they go to school.
Decide how much of your child’s education you will pay for.
Make some assumptions about inflation and return on investment and build your monthly savings plan.
Don’t forget to take advantage of any government or tax-preferred savings plans that make saving for education a little easier.
Once they are old enough, bring your child in on the plan and empower them to be apart of the savings plan.
I hope you have found this article of value, if you have questions or comments, I would be happy to discuss in the comments.
This article is for informational purposes only. It should not be considered Financial or Legal Advice. Not all information will be accurate. Consult a financial professional before making any significant financial decisions.