We have good and bad news, friends. Let’s start with the bad.
Here it is…
for those of you with school-aged children, school is out for the remainder of the year.
What we once knew as normal before COVID is no longer...
The good news is that now is the perfect time to explore custodian brokerage accounts for your kid(s). Your kid(s) will be sure to give some extra sweet kisses for helping them start early.
The U.S. Securities and Exchange Commission defines a 529C plan as a tax-advantaged savings plan designed to encourage saving for future education costs. They are sponsored by states, state agencies, or educational institutions and are authorized by Section 529 of the Internal Revenue Code.
Peterson’s, a leading educational services company, has noted the pros and cons of a 529C plan.
PROS:529C plans are tax-deferred investments so your withdrawals will most likely not be taxed unless the amount distributed is greater than the beneficiary’s adjusted qualified education expenses, according to IRS Publication 970. You will be taxed if there is money left over after your children finish their education.
The money that you contribute to your child's 529C plan can be transferred from state to state, so your child can be free to consider out-of-state schools. The funds can also be transferred from family member to family member in case one of your children decides not to pursue higher education.
In most states, your 529C contributions will be invested in stocks and bonds to try and grow faster than a regular savings account. Some plans offer an automatic investment option, which withdraws a certain amount of money each month from your checking or savings account for an easy, hands-free investment plan.
CONS:The money invested into 529C plans has to be used for college tuition. If you withdraw the money with the intention of using it for something other than college tuition, you will be penalized by 10%. Your state and federal government will tax the earnings on your account in your current tax bracket.
Although you can contribute as much as you want per year to your 529C account, be careful that you’re not saving too much. If you have a surplus of money in the account after all your children finish college, that money might be penalized and taxed by your state and federal government. It’s better to underestimate tuition costs and save an amount equal to the cost of four years of college at an in-state, public college.
Before investing in a 529C plan, make sure to research on where your money will be invested and the risk level of the investment. If you move your money from the fund without paying for education, you’ll be subject to that 10% penalty.
Advantages of a Brokerage Account Over a 529C Plan
Another, more flexible investment option for college tuition is a brokerage account. Depending on the state you live in, you can use funds deposited in these accounts before your child turns 18 or 21 for any purpose that benefits your child (like buying clothes for school).
Once your child reaches the right age, they can use the money in their brokerage account for any purpose without consequence.
Brokerage accounts function like a regular investment account, so you have more investment options to choose from (exchange-traded funds (ETFs), mutual funds, individual stocks or predesigned options, to name a few).
Unlike a 529C account, brokerage accounts do not offer many tax advantages. Any growth when you take funds out of the account or dividends may be subject to income taxes. However, since these accounts will belong to your children, they will be taxed at their tax bracket.
Similar to a 529C account, friends, family members, parents, and guardians can contribute to brokerage account. These accounts are both considered gifts and are subject to gift tax.
If any one person’s contributions exceed $15,000/year in a brokerage account, they will be subject to gift tax. (Married couples can contribute $30,000 together annually without getting taxed).
Brokerage accounts become the child’s irrevocably and can’t be used by a parent in any way except to benefit the child. They are also weighed more heavily than 529Cs when it comes to financial aid and Federal Student Aid calculations.
Compound Interest & Albert Einstein
Albert Einstein is quoted as calling compound interest “the eighth wonder of the world” and “the most powerful force in the universe.”
“He who understands it, earns it,” Einstein said. “He who doesn’t, pays it”.
Investopedia defines compound interest (or compounding interest) as an interest calculated on the initial principal, which also includes all of the accumulated interest from previous periods on a deposit or loan. It will make a sum grow at a faster rate than simple interest calculated only on the principal amount.
In short, compound interest is the interest you earn on your money, plus the interest it has already accrued.
For example, if you start off with $1, and that doubles every day, how much would you have after a week? A month?
Each day your money would double - so on day two, you’d have $2, day 3, you’d have $4, and day 4, you’d have $8. At the end of a week, you’d have $64. After a month, you’d have over $530,000,000.
If you stick to a long-term strategy of investing and saving, you’ll be allowing the power of compounding to do a lot of heavy lifting as you build wealth. Start planting seeds for the future one coin at a time and your funds will grow to meet and exceed your future goals.