Should you focus your savings towards your retirement or save for kids’ college?
When planning for your future, there is always some confusion about balancing savings for multiple goals simultaneously. The major dilemma falls on parents when contemplating whether they should allocate their savings dollars towards future retirement dreams or start socking away funds to pay for their child’s college tuition bills. While sorting out these two competing priorities can feel overwhelming at first, we’ve laid out 5 rules to follow when faced with this tough decision.
Rule 1 – It’s ok to put yourself first!
As parents, it’s sometimes hard to put your own needs front and center, especially when you’ve focused most of your attention on providing for your children’s needs. The bottom line is there will be a point when you don’t want to work anymore or can’t possibly work anymore and will need to have some savings to draw from to support you when you’re no longer bringing in a regular paycheck. It would be best if you stayed focused on your retirement savings even as you’re thinking about the significant price tag that can come along with the future cost of college.
Rule 2 - Make sure you’re saving at least 15% of your income towards retirement
Of course, this is a general rule of thumb, and depending on your future retirement goals and the amount of income you’re making today, these percentages can vary greatly. If you can focus on allocating 15% of your income (including any matching contributions from an employer), you should be well on your way to a solid financial foundation. Let’s look at an example.
Assume Mary is 31 years old and currently makes $85,000 at her job. Her goal is to save 15% or $12,750 each year for her future retirement needs before worrying about starting a college savings plan for her two-year-old daughter.
First, Mary would start with participating in her company’s 401k plan. Her employer provides a 3% matching contribution if she saves 5% of her salary. She would go ahead and contribute at least 5% to her plan to receive the total employer matching contributions.
Next, Mary would look to see if she’s eligible to contribute to a Roth IRA. Because her income is under $125,000 in 2021, she’s eligible to make a $6,000 Roth IRA contribution.
Mary is now fully contributing a total of 15% of her income in a tax-advantaged way towards her future retirement goals.
Rule 3 – Cash cushion for emergencies
The next step you should take in your savings strategy before stressing over college costs is making sure you have some backup reserves in the bank in case of an emergency. Most people should strive to have between 3 – 6 months of essential living expenses tucked away in a savings account. If you haven’t started yet, focus on getting at least 1 month saved and make a plan to allocate funds monthly until you’ve got a comfortable cushion in place.
Rule 4 – Make a plan for future college costs.
Now that you’ve tackled the first three steps, it’s time to start considering future college costs. There are a lot of variables to consider when setting up a savings plan for college. The first step is to identify how much you might need to save every month to reach your savings goal. To do this, you’ll need to think about the following questions.
How much can you expect to spend for one year of college? These costs will typically include tuition and room & board, books and supplies, and other fees. (Remember there’s a t-shirt to buy for every weekly function!!!)
Will your child be attending an in-state or out-of-state college? Out-of-state tuition is typically much higher than in-state tuition when you’re evaluating public university costs.
How much do you want to provide towards the total cost of your child’s education? Many people have varying thoughts about providing some assistance vs. providing 100% of the cost.
What are the options available to pay for college? Unlike retirement, there are multiple different avenues you and your child can explore as you start to think about funding future college costs. Consider the following options in addition to just paying cash:
Student Earnings from part-time jobs – once your child is old enough to start earning some of their own money, help them set up a savings strategy to help with future college expenses.
Loans – Students can take out low-cost government loans with the ability to pay these back on very flexible repayment terms once they finish up their education.
Grants – Keep in mind all grants are not necessarily needs-based. Many colleges and universities have various grants available for certain students they want to have attend their school.
Scholarships – There are thousands of scholarships available for students rewarding everything from academics and sports to being a good citizen or showing mastery in a particular skill. The key to applying for scholarships is to start early (sophomore year of high school) and apply for everything, even if it’s only a $500 scholarship. Don’t forget to tap into local scholarships offered by various businesses and associations as the competition is less than national scholarships.
Rule 5 – Save often and systematically for maximum efficiency.
Now that you’ve identified what you should be saving, it’s time to implement your strategy. There are several savings options available, but one of the most tax-advantageous vehicles you have access to is a 529 college savings account. Most 529s allow regular contributions of as little as $25/month. Many states offer tax incentives for 529 savers. The most significant tax benefit of socking away money in a 529 college savings account is that all of the earnings in the account are completely tax-free when you use that money for college expenses. Time is your ally when it comes to your college savings strategy. Starting now with just a small contribution will allow you the ability to let your money work for you to generate compounding returns on your investments.
There are many ways to save for future college costs, and with so many personal variables to consider, it may seem overwhelming to sort it all out on your own. It is possible to strike a balance in your decision of how to allocate your savings dollars between retirement and college. The most important takeaway is to be sure you’re not putting your retirement on the backburner! For a detailed and unique analysis of how much you should be saving for your child’s college education, reach out!
At Beyond Wealth, we can help you explore the best options to help you achieve your unique life vision.
Brandy Branstetter, CFP®
Principal - Wealth Advisor