#244 – 529 Plans vs. Coverdell ESAs, Prepaid Tuition, Custodial, and Investment Accounts

could be really inexpensive if you prepay these for these two tuition plans. And this is really only for tuition, if we're not talking about room and board for the first two years of community college. And if you've done a years in advance, there's a significant savings there. Now, some of you might be like, well, prepaying means like you have to come up with the cash, right? So let's say for tuition that the community college is like, I don't know, $5,000, for example, for a semester, you don't have to come up with $5,000. They have different payment plans. So you like you say I'm committing to paying for this block of time, one semester, two semesters, and so forth. So you can still have this like a payment plan associated with it. So I like that idea. It locks the tuition rates, it protects you against future increases, and it offers like really good savings into the future as well. Now, where I mentioned that these plans are typically ran and administered by the state that is offered. Back in the day, when I just started in financial planning, I used to volunteer for Maryland 529 college savings plan. And so they too have do two of these types of plans. The the 529 College Savings Plan is run by T Rowe Price to reprice is an investment company. So all the options in the plan will be offered through T Rowe Price funds. And they also have a prepaid tuition plan. And so prepaid tuition plan is administered by the state. And so what what also happens, right, because the state takes the money, somebody has to run the plan for you, because they're, you know, it's like a pension fund. If you think of this prepaid tuition plan, it's like a pension plan. You put money into it, they invest it for you. They also guarantee you that if in the future, and we know that's most likely to happen, it's going to cost in the example that I gave instead of $5,000, for tuition for one semester at the community college, if it's going to cost $7,000, they will cover the cost, right? Because what they've done over the years, hopefully the group the money to that point where they have enough to pay, so it reduces your financial risk. So a lot of states provide that guarantee, which for many people is very assuring because when you have an investment account, a typical 529 plan, and you invest in the stock market, in the bond market, and even in the savings account, right? You don't have a guarantee that there's going to be a dot balance market could change rates can go down. So that's the beauty of this type of account. But what it also kind of puts brakes for some families are these drawbacks, where like, it's, you really have to be certain that for example, your child will go to a specific school because what you're doing is that you're really trying to see how you can like zero on, like, locking in those tuition rates. Now I've had exam ball will only one family so far, but they've prepaid for this tuition for these kinds of, they bought the semesters, I think it over the year. So basically, they had a full prepaid tuition for their child to go to University of Maryland. And then later on, their child decided that she did not want to go to University of Maryland, she wanted to go go to a different school, and I can't remember now which school it was, but I know was out of state. So what this plan did is that it took whatever that balance was, right. So let's say the year that she goes to college, tuition for University of Maryland is $15,000 per semester, they would give her $15,000, she can take that amount, and go spend it at another school. That's it, right, they're not gonna give her the equivalent of what tuition is at that school, first of all, because it's out of state. And one of the things with these prepaid tuitions tuition plans is that it really is good. If you stay within the state, you can go to different schools, but as long as it's within the same state, they have limitations, right and what they can pay. So the family had to come up with a difference of how to cover you know, the cost of that school that that their daughter wanted to go to. So I firsthand seen that it could work if you have that kind of situation. And I also first hand seen how it does work when somebody does stay in, you know, unintended state at least. And this could potentially save quite a bit on these, you know, inflation increases. One thing I have never done, but I thought about it now is like calculated like, what's the difference? Like how much money did you really save by having this prepaid tuition plan versus invest in it on your own? And I know a lot of you may be thinking, Well, it depends on what timeline you'll look at. And this might be a conversation for another episode. So I just want you to know that there's there's some limitations with that. And really, the only last thing to mention here that it does cover tuition and like mandatory fees, but it does not cover room and board and other expenses. So you need to be planning for that. And if you have a child who might be staying at home, this might be a good alternative. I also think this might be sort of a good combo situation where you have an investment 529 type of account. And you also have a prepaid tuition, because then the other type will help you have funds for you know, other expenses that are not covered by this plan. So it's an alternative. And it's a great one. My next discussion here on the list would be to think about custodial accounts. We talked about custodial accounts, on this podcast in the past, because this is something that I think every parent should think about in terms of opening up for their children, I am referring to you GMA, and UTM, a unified unified gift to Minors Act, and unify transfer to mind and act. I think I got those, right. But I'll have this in the show notes. So these are accounts that are actually specifically intended for your kids. And you while the kids are still minors under the age of 18. In most states, you actually own account with them, when they turn 18, these accounts become their own. And so what this allows us parents to do is it allows them to present you know, present this opportunity for learning how to grow the funds, how to invest and so forth. Now, while you know, the parents are in charge of these accounts, these funds can be used for college, they're not intended for college, right? Because these accounts aren't specifically designed for that they're more like investment accounts for the kids. And the difference between the UDMA and UTM. A is the type of investments you can have in both, and I again, I've covered these in the past, and I'll have those previous episodes for you to check out. So if I think of those because a lot of times I hear parents say, Oh, we have a UTI ma account or like a grandparent setup one, that's great, but you need to keep this in mind at once your child is going to reach the age of majority. Usually it's a team. It's their account, and what if they choose not to spend money on college? I mean, I hope you'll never have to find yourself in that kind of situation. But things happen, right? People change their minds and so forth. So I would I would really think twice about using this As a you know, as an account that specifically is designated to, to pay for college expenses as compared to 529. Because there's a ton of benefits that that 529 has, that this account doesn't. And so there's no tax advantages, right? Like, no funds grow tax free, you actually do have to pay taxes on all the earnings and, and so forth. So it may not be the most tax friendly type of account, it's still a great option to grow it and you know, pass it on to the next generation. Now, it does have impact on the financial aid, which talked about this in context of Coverdale accounts, but assets in these accounts are considered to be child's accounts. So once they turn 18, if their account, and one of the things when you're filling out that FAFSA form, if the kids own accounts, they're the most, they're going to be the ones who are penalized the most. And so, for that family contribution calculation is going to be assessed to 20% of the account balance. Right, if the if the Coverdell account was like at 5.64, this is huge. So I just want to warn you about you know, thinking of this account is still a great option. And we're going to talk about this, why and what else to do. But in context of college focused, you know, tuition savings and ruin