If you are committed to paying for at least some of the college costs for your children, you should open a 529 savings plan, which allows you to grow money on a tax-deferred basis and withdraw it for qualified higher education expenses -- including tuition, room & board and related supplies -- tax free.
Contributing a little bit each month to a 529 can go a long way. Just $100 a month invested in a tax-deferred 529 plan can grow to over $40,000 in 18 years. If you increased that monthly contribution to $200, you could save over $80,000 in 18 years.
Typically, investment options in 529 plans are limited to mutual funds, including target-date funds, asset allocation funds and index funds. Some plans also offer actively managed portfolios for an extra cost. Total cost, including administrative and investment fees, are an important consideration since they will reduce your performance over the long term.
Many states offer their own 529 plans and depending on where you live, you might benefit from additional tax breaks by contributing. Some states offer state income tax breaks regardless of what plan you choose.
If reputation is important to you, four 529 plans received the coveted "Gold" Morningstar rating in 2012: The Maryland College Investment Plan, the T. Rowe Price College Savings Plan for Alaska, the Vanguard 529 College Savings Plan for Nevada and the Utah Educational Savings Plan. These plans were considered "best of breed" by Morningstar analysts based on their investment options, cost, and performance relative to their benchmarks and peers.
Another benefit of 529 plans is that their beneficiary options are surprisingly flexible. They can be transferred from one child to another child or family member, including a parent, step-relative, cousin or in-law, if need be or desired.
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