Cap and diplomaMy niece Kate is in 8th grade. That means freshman year of college is slightly less than 5 years away! Sounds like a long time to me, except when I think about saving up thousands and thousands and thousands of dollars. If she goes to a private college, that might just be enough for the first year!

While regular inflation in the U.S. has driven prices up 19% over the past five years, college costs have soared 53%. It’s truly frightening. So if you have kids or even expect to have kids, it’s good to know what resources are out there.

Fortunately all 50 states have set up tax-deferred savings plans that are similar to retirement savings. These 529 plans”named for the section of the tax code that defines them”grow tax free all those years until you need to start withdrawals. And thanks to recent federal legislation, withdrawals are now tax free, too, when used for qualified education expenses (tuition, room and board, books, etc.)

Most plans require only tiny amounts of money to set them up (even $25) and you need put in only what you can afford. If some months you can’t contribute anything, so be it, there’s no penalty. Many people set up direct deposit each month, following that old adage “pay yourself first.”

If you want to compare state by state plans, take a look at this helpful website. But also keep two points in the front of your mind:

  • While 529 plans are federal tax free (if you manage them the right way) they are not necessarily state tax free. While some states offer significantly better plans than others (lower fees, better asset choices) you might still be better off using your own state plan if it gives you state tax benefits.
  • It is almost always better to set up a plan online than to buy through a broker. The 529 plan I use through New York state offers a “direct” plan online (for annual fees of .3% of assets annually) and a plan sold through brokers (for annual fees of .6% annually, plus any sales charges the broker gets). But it’s the same exact plan! There’s absolutely no reason to pay more.

Finally, if you are concerned that the person you are saving for may end up getting a great scholarship, or doesn’t go to college at all, these plans are transferable. Like a 401(k) you are able to choose another beneficiary. However the 529 is different in that your beneficiary must be a relative. It can even be yourself!

So if my niece decides not to go to college (fat chance I’d let that happen) I’ll just get myself into a trade school, maybe learn carpentry. Always thought it would be cool to be a cabinet maker.