Grow Your Savings from Diapers to Dorms

Physician's Money Digest, December 2006, Volume 13, Issue 12

After 9 months of receivingbaby blankets fromrelatives and immersingyourself in endless pagesof reading material, youhave suddenly become a proud parent,building a priceless bond with yourchild. Although ecstatic about yournew adventures in parenting, it doesn'ttake long for you to realize that nothingcould have prepared you for suchan undertaking. Sleepless nights anddiaper dollars are just the beginning.

After the shock fades and you beginto settle in as a new mom or dad, thereare some things you can do to preparefor your financial future in order tomake things easier on you and yourchild. Once the early years have passedand your family matures, universitiesfrom across the nation will be sendingshiny pages of marketing material toyour home. Even if all you can thinkabout today is bottles and baby food,these days of college courtship willcome quickly. And because it may beone of the biggest expenses you couldever face as a parent, it is important tostart saving for it as soon as possible.

With the average public universitytoday costing upwards of $5985 peryear and private university tuitionscosting around $20,952per year, you will need tobe prepared. You shouldalso expect hefty price increasesbecause by the timeyour children are ready togo to college, these numbersare likely to have increaseddramatically.

Tackle Rising Costs

To soften this blow, you might wantto consider investing in a 529 collegesavings plan. No matter what type ofinvestments you choose, any earningsfrom the money you contribute to a529 will accumulate tax-free until thetime you withdraw it for college costs.Adding a further benefit, some statesalso offer state income tax deductionson these contributions. State tax treatmentmay vary and state tax deductionsare limited only to residents ofstates that allow these benefits.

Although there are no income or agerestrictions for participation in a 529plan, there is a limit to the amount youcan contribute before gift-tax penaltiesapply. In 2006, couples can contributeup to $120,000 in 1 year per child, andsingle taxpayers can contribute up to$60,000. It is important to rememberthat this amount is considereda 5-year gift,meaning that a portionof the contributionmay be subject toestate tax recapture ifthe donor dies within 5years of the gift. Aftermaking this gift, any additionalgifting to the samebeneficiary in 2006 or the next 4 yearswould be considered a reportable gift.

When it comes time for freshmanmove-in day at the dorms, you will notonly be thankful for your years ofpreparation, but you may also appreciatethe withdrawal advantages ofyour 529. Distributions from 529plans for qualified college expenses,including tuition, fees, books, supplies,and room and board, are federalincome tax-free and in some statesexempt from income taxes as well. Butit is important to note that if you donot use the assets in the 529 plan forqualified higher education expenses,earnings on such withdrawals aretaxed at the recipient's rate plus apenalty of 10% on the earnings.

Another thing to remember is thatthere no longer is a sunset provisionthat expires on December 31, 2010,which would mean that instead of taxfreewithdrawals, most qualified withdrawalswill go back to being taxed onthe earnings portion only, at the recipient'stax rate. Keep in mind, the value ofyour 529 plan investment will fluctuate.When you redeem your shares, theymay be worth more or less than youroriginal investment. There is no guaranteethat the account will grow enoughto cover higher education expenses.

Encourage Children to Invest

Being able to help your child investin their education is one of the greatestgifts you could ever give them, but inorder to promote further independenceand growth, allow them to contributeto your years of preparation by savingsome money too. While college mayprovide them with a wealth of knowledgeand experience, managing themoney from their summer jobs mayteach them about the monetaryresponsibility essential for a strongfinancial future.

Joseph F. Lagowski is vice president, investments,and a financial consultant with AGEdwards in Hillsborough, NJ. He welcomesquestions or comments at 800-288-0901, orvisit www.agedwards.com. This article wasprovided by AG Edwards & Sons, Inc, member SIPC.