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College Investing Primer
Learning the ABCs of investing can move you to the head of the class.
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If there's college tuition in your future, you need to create an investment
strategy to cover the cost. The longer you delay putting a plan into place, the greater the
likelihood you'll face the prospect of having to borrow large sums or limiting your child's
college choices. |
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INVESTMENTS TO AVOID
There are a number of investments that don't usually work very well as ways
to invest your college savings, either because they're too aggressive or not aggressive enough.
Or they may be hard to cash in when you most need them. They include:
- Any investment that doesn't pay enough
interest to beat the rate of
inflation, including savings accounts,
short-term bond funds, money market
mutual funds, and similar investments
- Any investment that's not easily liquidated, such as real estate, unit
investment trusts, and limited partnerships
- Any speculative investments that expose you to greater than average risk
of losing principal
THE VALUE OF EQUITIES
Investments that have the potential to grow in value -
stock,
exchange traded funds,
and mutual funds in particular -
may be the most appropriate choices for meeting expenses that are constantly increasing. You can
get all the advantages of long-term equity investing by starting a college fund when each child
is born. You can minimize current taxes by making investments you intend to hold in your
portfolio for a number of years.
And qualifying dividends are taxed at your
long-term capital gains rate.
The risk of equity
investing, though, is that growth is not guaranteed. Your account could lose value in a market
downturn or if individual investments didn't meet your expectations.
TIMING IT RIGHT
There are some investments you can time, like the dates when your CDs and zero-coupon bonds
come due. Since you'll need a cash transfusion, usually in August and January when the new
semesters start, you can plan to have the money available then. Colleges usually require payment
in full when students register, though you may be able to arrange a monthly payment plan to
spread the cost over the academic year.
When you're buying
zero-coupon bonds, it's especially important to buy those
that mature during the four- or five-year period that you'll need the cash. If
you have to sell them before they're due, you may take a real beating on the
price as they tend to be volatile in the secondary market. If you're buying US
Series EE or Series I savings bonds to pay college expenses, remember that you
have to keep them at least five years to collect the full interest.
As an added bonus, if your income in the year you redeem savings
bonds is less than the amount established by Congress, interest on those bonds
is tax free if you use them to pay qualifying college costs and meet certain
ownership requirements. You can check the website of the Department of
Education (www.ed.gov) or the site describing
savings bonds (www.savingsbonds.gov)
for more information.
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CATCHING THE LOWER RATE
One way to take advantage of your child's potentially lower tax
rate after he or she turns 19 or 24 is to make a gift of stocks or stock mutual funds
to the child before they're sold to pay college or graduate school tuition. Since your
child, not you, is selling the investment, the taxes on the profits will be calculated
at the child's capital gains rate, which could be as low as 0%. And you won't owe any
gift tax if the value of the stock or stock fund at the time of the gift is less than
the tax-free annual gift amount. In 2010, that's $13,000 per recipient, or $26,000 if
you're married and file a joint return.
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© 2010 by Lightbulb Press, Inc.
All Rights Reserved.
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When your children are young,
you'll probably want to consider investing primarily in equities, such as
stocks and stock mutual funds or exchange-traded funds (ETFs). If you reinvest
all the earnings or use them to make similar investments, the value of your
portfolio has the potential to grow over time.
As they get older you may want to begin switching
some of your portfolio into more price-stable investments, including equity income funds
and intermediate-term 
As your child gets closer to college
and actually enrolls, you may want to include more income-producing
investments, and continue to transfer part of your equity assets gradually into
more conservative investments. The schedule should be dictated by when your
tuition bills come due, not by what you think the market's going to do. But, if
the stock market goes way up at any point in this period, you may want to take
advantage of selling when the prices are high. In other words, you may want to
speed up - even if just a bit - the shift from stocks and funds to less
