Prepaid Tuition & Savings Plans

Even if your child won’t be in college for at least a few years, check out the many types of prepaid tuition programs that exist – especially if you’re looking to pay today’s tuition rates. Many times, participants pay for their child’s college tuition from the day they are born until the day they enroll. Participants pay a fixed price for tuition based on the rates at that time, while tuition rates increase for non-participants.

Each state that features a prepaid tuition plan will have specific guidelines. There are usually two ways to save:

Prepaid Units

Prepaid unit plans allow buyers to purchase a fixed percentage of tuition. Plan participants pay the same price for each unit and the price of a unit increases each year. There is no limit on the number of units you can purchase.

Contracts

Contract plans (also known as guaranteed interest plans) allow the parents to purchase a specific number of year’s tuition. The purchase price depends on the child’s age, if there is a lump sum payment involved, or if there are monthly installments.

The advantage of a contract plan is that it offers lower rates for younger children because the state holds onto your money longer.

Check your state’s rules & regulations for the plan you are considering.

For a list of telephone numbers, and links to the web pages of operating programs, click here. For some states, the plan may have been terminated or the plan information is not readily available. For more information, please contact the individual programs.

Prepaid Tuition Plan Benefits

  1. Locks in tuition at current in-state university rates, regardless if when your child will be attending college.
  2. Prepaid tuition plans are guaranteed to keep pace with inflation.
  3. Prepaid tuition programs are often exempt from state and local taxes. Federal taxes are deferred and are not paid until the money is used. The beneficiary pays federal taxes, but because student income is lower than adults’ the tax rate is lower
  4. Family and friends can purchase prepaid tuition units.
  5. Most states allow lump sum payments or monthly installments.
  6. Full principal on prepaid plans is protected from market fluctuation.
  7. Has minimal impact on financial aid.
  8. In certain states, prepaid tuition can be used to cover other expenses such as fees, room and board, or books and supplies.
  9. The program is beneficial to families who do not qualify for need-based financial aid.

Warnings

  1. Prepaid tuition programs do not guarantee admission into college.
  2. Not all states offer prepaid tuition plans.
  3. Many states have age and grade requirements.
  4. Saving for college with a prepaid tuition program negatively effects federal aid.
  5. In most states, prepaid tuition is set to public, state universities, not private.
  6. If the student does not to attend college, many states will only return the original contribution, reducing or eliminating compounded interest.
  7. Unqualified withdrawals taxed as regular income and subject to 10% penalty.
  8. Prepaid tuition plans do not have investment options.
  9. There is a limited enrollment window for the prepaid program each year.

Questions

Some important questions to consider:

  1. What schools participate in the plan?
  2. What schools participate in the plan?
  3. What if your child chooses a private university or an out-of-state public university instead of your state school?
  4. What if your child is not accepted at the state university you’ve been saving for?
  5. What happens to the money if your child doesn’t go to college? Can shares be transferred to other kids in the family?
  6. What happens if your child is involved in an accident and can’t attend college?
  7. How much can you invest? Is there a minimum? A maximum?
  8. What fees will you have to pay?
  9. What are the payment options? Is a lump sum required or can you make monthly contributions?
  10. Taxes: what is the taxable status for state & local taxes? How about federal? What’s the tax rate when the money is withdrawn for use?
  11. What about tax deductions? Are the contributions tax deductible?
  12. Are there any residency requirements?
  13. Age requirements?
  14. What happens if the family moves from the state in which the student had planned to attend college, but the student does not?
  15. Exactly what expenses are covered? Just tuition? What about room & board? Books & fees? Travel expenses back and forth to school?
  16. Is the money guaranteed by the state?
  17. Can you make automatic payroll deduction payments?
  18. Can other members of the family or friends also make payments? Are contributions limited to parents?
  19. What if you want to withdraw form the plan? Are there cancellation penalties?

Savings Plan Trusts

Savings plan trusts are investment accounts where parents cultivate their child’s education funds. Participants can make deposits of as little as $25 and programs usually guarantee a minimum rate of return. An advantage to this type of funding is the freedom to apply the savings to any college or university.

Benefits

  1. Small deposits are accepted, as little as $25 per month.
  2. The funds can be used at any accredited U.S. college or university.
  3. The Savings Plan may offer a higher return on the investment than a Prepaid Tuition Program.
  4. Savings Plan Trusts are federal tax deferred until the funds are used.
  5. Funds are taxed at the beneficiary rate, which is lower than adult rates.
  6. Many states offer tax benefits.

Warnings

A savings plan trust, unlike a prepaid tuition program, does not guarantee the current tuition rate regardless of a rise in those rates.

Some states have residency requirements. These states often require that either the participant or the beneficiary be a state resident when the student is first enrolled in the program. The states that do not have such a requirement are open to non-resident investors.