When to Start Saving for a Child’s College

The increasing cost of higher education presents a financial challenge for many families. Preparing for these expenses requires foresight and a structured approach to saving. Understanding when and how to begin saving can alleviate future financial pressures, transforming a burden into a manageable goal.

The Advantage of Early Saving

Starting to save for college as early as possible offers a financial advantage due to the power of compounding. This principle allows investment earnings to generate their own earnings over time, leading to growth. Even modest, consistent contributions made over a long period can accumulate into a significant sum.

Beginning early also helps mitigate the impact of tuition inflation, which historically has outpaced general inflation. College tuition and fees have increased significantly over time. By saving early, families can spread out the financial commitment, making contributions more manageable.

Exploring College Savings Options

Several dedicated savings vehicles offer tax advantages for education funding, each with distinct features. Understanding these options can help families choose the most suitable path for their circumstances.

529 Plans

529 plans are state-sponsored investment accounts designed to help families save for future education costs. They offer tax-deferred growth, meaning earnings are not taxed annually. Withdrawals are federal income tax-free when used for qualified education expenses, such as tuition, fees, books, supplies, and room and board for eligible students. Qualified expenses also include up to $10,000 per year for K-12 tuition and up to a $10,000 lifetime limit for student loan payments.

While federal contributions are not tax-deductible, many states offer a state income tax deduction or credit for contributions to their plans. Contributions to a 529 plan are considered gifts for tax purposes and can qualify for the annual gift tax exclusion, which is $19,000 per individual in 2025. A special provision allows for a lump-sum contribution of up to five times the annual exclusion, treating it as if made over five years, totaling up to $95,000 for an individual or $190,000 for married couples in 2025, without incurring gift tax.

There are two types of 529 plans: college savings plans and prepaid tuition plans. College savings plans allow account owners to invest funds in various portfolios, with earnings fluctuating based on market performance. Prepaid tuition plans generally enable the purchase of future tuition at current rates for specific institutions. The account owner retains control of the funds, even after the beneficiary reaches adulthood.

Coverdell Education Savings Accounts (ESAs)

A Coverdell ESA is a trust or custodial account established to pay for qualified education expenses, from elementary and secondary school through higher education. Contributions grow tax-free, and distributions are also tax-free if used for qualified education expenses. These expenses are broader than 529 plans for K-12, including tuition, books, supplies, equipment, academic tutoring, and special needs services.

The annual contribution limit to a Coverdell ESA is $2,000 per beneficiary, across all accounts. Eligibility to contribute is subject to income limitations, with contributions phasing out for higher earners. Funds must generally be distributed by the time the beneficiary reaches age 30.

UGMA/UTMA Accounts

Uniform Gifts to Minors Act (UGMA) and Uniform Transfers to Minors Act (UTMA) accounts are custodial accounts where assets are irrevocably transferred to a minor. These accounts can hold a wide range of assets, including cash, stocks, and mutual funds. There are no contribution limits, but contributions count toward the annual gift tax exclusion.

Earnings within these accounts are subject to the “kiddie tax,” where a portion is taxed at the child’s rate and a portion at the parent’s marginal tax rate. For 2025, specific thresholds apply for tax-free earnings and taxation at the child’s or parent’s rate. Once the child reaches the age of majority, typically 18 or 21 depending on the state, they gain full control of the assets, which can then be used for any purpose.

Roth IRAs

While primarily retirement savings vehicles, Roth IRAs can serve as a flexible option for college savings in certain situations. Contributions to a Roth IRA are made with after-tax dollars and can be withdrawn tax-free at any time, regardless of age. Earnings can also be withdrawn tax-free if the account has been open for at least five years and the withdrawals are used for qualified higher education expenses.

Qualified education expenses for Roth IRA withdrawals include tuition, fees, books, supplies, and required equipment. If the student is enrolled at least half-time, room and board expenses also qualify. Using a Roth IRA for education expenses allows for penalty-free withdrawals of earnings before age 59½, which is generally not permitted for non-education related withdrawals.

Estimating Future Costs and Setting Goals

Determining a realistic savings target for college requires evaluating current costs and projecting future expenses. Start by researching the current average costs for different types of institutions, such as public in-state, public out-of-state, and private four-year universities. For the 2024-2025 school year, average annual tuition and fees range from approximately $11,610 for public in-state to $43,350 for private institutions. The total cost of attendance, including room, board, and other expenses, can range from about $29,910 to $62,990 per year.

It is important to factor in tuition inflation when projecting future costs. College tuition has often increased faster than general inflation. Online college savings calculators can help estimate future expenses by applying an assumed inflation rate to current costs, providing a target savings amount. These tools typically allow for adjustments based on the child’s age and expected enrollment year.

Once a target savings amount is established, break it down into manageable monthly or annual contributions. Even if the full projected cost seems daunting, saving any amount is beneficial. Financial plans can be adjusted over time as circumstances change, focusing on consistent contributions to build an education fund.

Understanding Financial Aid and Plan Flexibility

College savings plans interact with financial aid eligibility, primarily through the Free Application for Federal Student Aid (FAFSA). The type of savings vehicle and account ownership can influence the Student Aid Index (SAI), which determines eligibility for need-based aid. Generally, assets held in a parent-owned 529 plan or a dependent student-owned 529 plan are considered parental assets. These assets are assessed at a low rate, with a maximum of 5.64% of their value counted in the SAI calculation. Qualified withdrawals from these accounts for educational expenses are not reported as income on the FAFSA.

In contrast, traditional custodial accounts (UGMA/UTMA) are considered student assets and are assessed at a higher rate, typically 20% of their value. This can reduce a student’s eligibility for need-based financial aid. Previously, distributions from grandparent-owned 529 plans were counted as student income, which could impact aid eligibility. However, for the 2024-2025 school year and beyond, qualified distributions from grandparent-owned 529 plans are no longer reported as income on the FAFSA.

Flexibility is a feature of 529 plans. If the original beneficiary decides not to attend college or has leftover funds, the account owner can change the beneficiary to another qualified family member without tax penalties. The IRS defines a broad range of qualified family members, including siblings, children, parents, and first cousins. If funds are withdrawn for non-qualified expenses, the earnings portion of the withdrawal is subject to federal income tax and a 10% federal penalty. Exceptions to this penalty may apply in specific situations, such as the beneficiary’s death, disability, or receipt of a scholarship.