Saving for college can be a daunting task, especially when considering the rising costs of tuition and related expenses. Families are presented with a unique landscape of options to help them prepare for their children’s educational futures. With the right tools and strategies, building a college fund can become a manageable and rewarding endeavor.
At LIS, we generally consider three different types of accounts when considering saving for college – or for savings for children or grandchildren, in general:
The Iowa 529 College Savings Plan
The Iowa 529 College Savings Plan is an excellent starting point. It allows families to invest in a tax-advantaged way towards education expenses. Contributions are state-tax-deductible and grow tax-free. When the time comes for distributions to begin, withdrawals for qualified education expenses are also tax-free. Historically, this was only for college education expenses, but was recently updated to also include up to $10,000 per year for private K-12 tuition as well. The plan offers various investment options, allowing families to tailor their plans according to their risk tolerance and financial goals.
The negative side of the 529 is that if funds are not used for college education expenses, they generally then incur taxes and penalties for withdrawal. While there has been some new legislation allowing the funds to be used for Roth contributions, before contributing to a 529, careful consideration and planning should be given to the funds intended use long-term.
UTMA (Uniform Transfers to Minor Act) Accounts
UTMA accounts are a custodial savings account established under state law to manage the assets of a minor until they reach the age of majority, which varies by state (age 21 in Iowa). This account allows an adult—usually a parent, grandparent, or guardian—to manage assets on behalf of a minor without needing a formal trust. Importantly, funds deposited into an UTMA account can be used for anything that benefits the minor, not just educational expenses. This makes the account more versatile than 529 plans.
The drawback of the UTMA structure is that there are no tax advantages, so the account is taxed as it grows or is withdrawn. Earnings and capital gains in UTMA accounts are subject to the “kiddie tax,” allowing minors to pay tax on income up to a certain threshold at their lower tax rate, potentially reducing the overall tax burden.
Minor Roth IRAs
Another creative option is to utilize a Roth IRA in the name of your child. While this is only available to you if your child is earning and reporting income, the savings within this account have several unique attributes. The Roth IRA is invisible when filing the FAFSA report for loans, the assets grow tax free, and the contributions made to the account can be removed tax and penalty-free anytime.
If used for college-savings, the Roth does not give any tax deduction and the earnings on the account are taxed to the minor, but if the funds are not used for college, the minor could potentially use the funds for a first-time home purchase without penalty or consider saving the funds long-term as a jump-start for retirement.
No matter which account type you choose, being intentional and starting early is important. Consider automating your contributions with a set monthly amount or encouraging friends and family to gift funds towards your child’s future at birthdays or holidays – every little bit helps work towards the larger goal!
Navigating the landscape of college savings in Iowa doesn’t have to be overwhelming. By combining traditional methods with creative financial tools, families can take proactive steps towards building a robust college fund. Whether it’s contributing to a 529 plan, leveraging gift contributions, or exploring innovative savings strategies, every effort counts. By planning ahead and utilizing available resources, families can provide their children with the educational opportunities they deserve. The journey may have its challenges, but with the right tools and determination, success is within reach!
Both Mick Snieder and Tyler Klyn are CERTIFIED FINANCIAL PLANNER™ professionals. If you have questions or would like to schedule a meeting with either of them, please use THIS LINK to send a message and start a conversation. Working with an experienced and trusted professional is important as you evaluate which route to take. Let us help walk you through the details and considerations of your specific situation!