7 Types of College Savings Accounts

Though there is no guarantee that a degree will get your child your dream job, the cost of college tuition is generally considered to be an investment in a better future.

However, it’s a sizable investment. Over the past few years, the increase in college tuition has outpaced inflation. According to U.S. News, tuition prices for the 2021-2022 school year rose yet again. Tuition and fees for public, in-state universities sit just above $10,000 while the cost of private universities has grown to over $38,000. These numbers do not include room and board, textbooks and supplies, or meal plans.

While you can hope for scholarships to cover all of these costs, a good college savings plan is a better guarantee that you or your children will be able to attend the school they want. To help you better understand your options, we’ve broken down some of the most popular college savings plans.

Types of College Savings Accounts

Not all college savings plans are the same. Here is an overview of requirements, risk levels, and tax advantages of the ways to save for college.

1. Coverdell Education Savings Accounts (CESA)

A Coverdell Education Savings Account (CESA) is a common college savings plan that offers tax-free growth and flexible investment options.

CESA FAQ
Who can make contributions to a child’s CESA?	Anyone can contribute to a beneficiary’s CESA.
What is the maximum contribution amount?	The amount a person may contribute depends on their Modified Adjusted Gross Income. Total contributions from all sources cannot exceed $2,000 per beneficiary, per year.
What are the tax benefits of a CESA?	Contributions to a CESA are not tax-deductible, meaning they are made with after-tax dollars. Savings grow tax-free and withdrawals aren’t taxed as long as the money is used to cover college costs.
What are the investment options for a Coverdell ESA?	A CESA lets you choose how the money is invested. You can spread it across stocks, mutual funds, certificates of deposit (CDs), and share accounts to match the risk vs. return ratio you feel comfortable with. Be sure to watch for fees that come with some investments as these can diminish the account’s growth.
What can a CESA be used for?	A CESA can be used to save for tuition at either a public or private school. Funds can be used, tax-free, to pay for qualified education expenses such as tuition and fees, textbooks, and room and board. Funds which are used for non-education expenses are subject to a 10% penalty and treated as regular taxable income to the beneficiary.
Can another beneficiary be named to a CESA account?	The beneficiary must use the funds in their CESA by age 30. Should they choose not to, certain eligible family members can be designated as the beneficiary.

2. 529 Plans

Also referred to as Qualified Tuition Programs, 529 Plans are another great way to help your child or a loved one save for college. These operate similarly to an individual retirement account (IRA) but are state-sponsored, meaning that the specifics of your plan will depend on the state you live in.

It is worth noting, however, that you do not have to be a resident of that state to invest in one of their plans. A Texas resident, for example, can invest in a 529 Plan from Tennessee if they so desire. You can use a 529 plan from any state to pay for an eligible college in any state.

529 FAQ
Who can make contributions to a child’s 529 Plan?	Anyone can contribute to a 529 plan on behalf of a beneficiary.
What is the maximum contribution amount?	There are no income limitations for contributing to 529 Plans, and the maximum amounts that may be contributed per beneficiary are fairly high. The maximum amount depends on your state’s 529 plan.
What are the tax benefits of a 529 Plan?	Contributions to a 529 are not tax-deductible on the federal level, meaning they are made with after-tax dollars. Savings grow tax-free and withdrawals aren’t taxed as long as the money is used to cover college costs.
What are the investment options for a 529 Plan?	You can choose from a menu of investments in professionally-managed portfolios. The investment managers control these investments, but you can move your funds to other approved managed investments or reallocate your assets with the same fund managers once a year.
What can a 529 Plan be used for?	Funds can be used only for higher education expenses, such as tuition, books, and room and board. Generally, a 10% penalty must be paid if funds are used for non-education purposes, however, there are some exceptions that can be found in this IRS publication.
Can another beneficiary be named to a 529 account?	The beneficiary of the 529 Plan can be changed easily and doesn’t require a transfer of the account.

3. Traditional Savings Account

Some parents choose to save money in a generic savings account found at any bank.

Savings FAQ
Who can make contributions to a savings account?
What is the maximum contribution amount?
What are the tax benefits of a savings account?
What are the investment options for a savings account?
What can a savings account be used for?

4. Roth IRA

Did you know that you can also use your Roth IRA to help fund your child’s education? There are usually steep penalties for withdrawing retirement funds before you reach retirement age, but the IRS makes exceptions when it comes to college expenses.

Roth IRA FAQ
Who can make contributions to a Roth IRA?	Only the account holder can make contributions to a Roth IRA. To contribute to an IRA, you must have earned income and not make above a certain amount.
What is the maximum contribution amount?	The maximum contribution amount for a Roth IRA is $6,000 per year for 2021.
What are the tax benefits of a Roth IRA?	Contributions to a Roth IRA are not tax-deductible, meaning they are made with after-tax dollars. Savings grow tax-free and withdrawals aren’t taxed as long as the account has been open for at least five years and the money is used to cover qualified costs.
What are the investment options for a Roth IRA?	Other than life insurance and collectibles, Roth IRAs can hold virtually any asset class. This means you have a wide range of options and risk levels when investing in a Roth.
What can a Roth IRA be used for?	Qualified expenses include tuition, fees, books, supplies, and equipment required for attendance. Room and board may also be eligible if the student is enrolled at least half-time. To be eligible to use your Roth IRA distributions for education, the qualified expenses must be for one’s self, spouse, child, or grandchild.
What happens to the rest of the money in a Roth IRA?	Whatever money isn’t used to go towards your child’s education can be kept in the account and used in your retirement.

Note that you can also use a traditional IRA to pay for your child’s education expenses. However, since an IRA is funded by pre-tax dollars, you’ll have to pay income tax on any distributions you take. For that reason, using a Roth over a traditional IRA is preferable.

Always be sure to consult with a financial advisor before taking out any retirement savings early. The benefits may not be worth the consequences you may face in retirement if you don’t have adequate savings.

Other Types of Saving Methods

There are a few other options— though less popular than the ones we mentioned above— for saving money for your child’s education.

5. Prepaid Tuition Plans

Prepaid tuition plans are good options for parents who know that their child will be attending an in-state public institution. A prepaid tuition plan allows you to lock in tuition rates and prepay tuition credits.

6. Trust Accounts

With an education trust fund, you (the grantor) will fund an account and name a trustee to control the trust property. The trustee will distribute funds to the beneficiary according to the terms of the trust.

7. Custodial Accounts

Uniform Gift to Minors Act (UGMA) and Uniform Transfer to Minors Act (UGTA) are two types of custodial accounts that allow an adult to transfer assets to a child under the age of 18.

Start Saving for Tomorrow’s Education

College is by no means an inexpensive endeavor. Start saving now for your child’s college to lessen the burden down the road. The sooner you start saving, the opportunity there is for your account to grow and do the work for you.