College Savings, As Easy as 5-2-9

A smart way to save for college right now is by opening a tax-advantaged 529 account. Inside the account your investment earnings can grow tax-deferred, allowing for a higher return on investment than if the funds were in a taxable account. You can open a 529 account for yourself if you are over the age of 18 or for your children as soon as they are born! Funds can be used to cover certain K-12 education expenses, college tuition, and other eligible education-related expenses. Additionally, the SECURE Act was passed in December 2019, allowing up to $10,000 from a 529 plan to be used for student loan repayment after graduation. With a 529 account, it is easy for grandparents and other family members or friends to contribute money to a child’s future education.

Open a 529 Savings Plan

When looking into opening an account, be aware that 529 plans vary from state-to-state, so carefully read the details of the account and check on the administrative fees before you open it. There are rules on when and how the money is withdrawn and what expenses are eligible. Know that you can open a 529 plan in a different state from the one that you reside in. There are no federal income tax deductions for 529 contributions. Many states give a tax deduction for investing in your home state 529 plan, but only a few states give tax deductions for investing out of state. Please consult your accountant or tax preparer regarding your own circumstances. If you are interested in opening a 529 account, read this step-by-step guide, “How to Open a 529 Plan.”

Plan for Retirement Too

Maybe it seems strange that I am jumping from talking about paying for your child’s college education to planning your retirement. Just like on the airplane when the flight attendant tells you to put the oxygen mask on yourself before helping others, the same goes with saving for your child’s college fund. I believe in focusing first on saving for your retirement. There are no scholarships for being a senior citizen and you’ll need great credit to get a low-interest rate loan in your twilight years. We also don’t know what might happen regarding college costs in the future (if there may be some government subsidization, for example), but your retirement costs are imminent (unless Death comes for you first). For those living in the US, Social Security can be considered as part of your retirement plan, but shouldn’t be relied on exclusively. For more information about Social Security, read the Investopedia article “10 Common Questions About Social Security.” I recommend putting the maximum allowed amount in a Roth IRA or Traditional IRA each year (currently $6000), beyond what you might be saving as part of an employer retirement plan, such as a 401(K).

Contributing to a 529 Account

Get your other finances under control before you begin regular contributions to your child’s college fund. Even if you have some debts you are paying off, you should still, at a minimum, open the 529 account for your child early on, as it is an ideal place to stuff away work bonuses and monetary gifts. Begin making regular contributions once all high-interest debts are paid and your retirement savings are on track. Yes, you should make deposits into the 529 account if you are paying a mortgage, as mortgages tend to have lower interest rates than the return you can make on the investments in the 529 account.

You may wish to put away a portion of your child’s allowance in their account; even $20 per month building up over time will help with at least the first year of college. If your teen is earning money at a job, encourage them to save a large portion of his/her earnings in the 529 account. This is the perfect opportunity to have a conversation with your child about setting goals and saving money. Show them the account balance and charts each month so they can see the progress. Note that 529 accounts typically invest in mutual funds in the stock market, so there is a chance that your account can lose value. If you have a low risk tolerance level, choose conservative, principle-protected investments, such as fixed income options (i.e., bond funds) or keeping a percentage in cash. You’ll also want to rebalance the portfolio periodically and skew more conservatively as your child gets closer to his/her college enrollment date. Some plans have age-related funds that will automatically adjust as your child ages.

Rebalancing a ScholarShare 529 Account

We live in California and my two sons each have a ScholarShare 529 College Savings Account. I last rebalanced their investments over a year ago, so recently I thought it was time to check over the plans. Since I last adjusted the various investments, I have learned more about the value of investing in index funds and that over time, passive funds typically perform better than active funds (and for a lower fee). The ScholarShare accounts are managed by TIAA-CREF Tuition Financing and so the choices are in portfolios invested in TIAA-CREF mutual funds and bond funds. Now I will explain the four main types of investment choices available and share how I have allocated the investments for my boys moving forward this year.

Guaranteed Portfolio Option

The Principle Plus Interest Investment Portfolio under this heading is the most conservative option available through ScholarShare. It is the choice if you want to keep your money out of the market. It is essentially the equivalent of a high interest rate savings account with the benefit of tax-deferred earnings. The current interest rate is 1.70%. People who will begin withdrawing money in the next school year or are already withdrawing money would keep a larger portion of their money in this portfolio.

Single Fund Portfolios

There are four Single Fund Portfolios available at ScholarShare. I have decided to invest in three out of the four funds (I’m ignoring their Index Bond Portfolio). I practice what I preach regarding investing in index funds. I have allocated 25% of my sons’ account assets to the Index US Large Cap Equity Portfolio (which has 100% of its investment in TISPX). This fund tracks the S&P 500 index. This portfolio has shown the strongest historical rate of return since inception (in 2011) of all of the offerings available through ScholarShare at 14.3%. It also has the lowest total annual asset based fee at .08%, along with the following portfolio.

The Index US Equity Portfolio (100% invested in TIEIX) tracks the Russell 3000 index. Its rate of return since inception is a strong 14.03%. I have set 22% of the assets in my sons’ accounts to be invested in this portfolio.

The Social Choice Portfolio also tracks the Russell 3000 index, but the advisor attempts to align with the returns from the index while meeting certain ESG criteria. ESG refers to Environment, Social, and Governance factors. Socially conscious and responsible investors like myself value companies that take such factors into consideration as part of running their businesses. The rate of return for this portfolio, which is invested 100% in TISCX, is a healthy 13.15% since inception, with an annual cost of .25%. I don’t mind paying a higher rate for the fees for this portfolio as I want to show my support for this investment option in order to encourage more of this type of fund in the future. The asset allocation set for this portfolio is 10%.

Multi-Fund Portfolios

There are six different types of portfolios available under this heading and each of these has an actively managed or passively managed option. There are two of these funds in which my sons’ assets are invested. First, I had previously had a portion of my sons’ assets in the Active Diversified Equity Portfolio, but with this rebalancing effort, I decided to switch to the Passive Diversified Equity Portfolio with an allocation of 10%. The Active and Passive portfolios hold slightly different underlying funds and I liked the choices for the Passive version better (see below). While the Active version performed marginally better since inception, the advantage was negated by its higher annual asset-based fee. The Passive version performed better by 1.69% over the last year and its .12% annual fee is more attractive moving forward than the .55% fee of the Active Portfolio.

Source: Multi-Fund Investment Portfolios Page on ScholarShare

The second multi-fund portfolio is the only actively managed investment in my sons’ 529 accounts — the Active Growth Portfolio. The annual fee is .54% and the return since inception is at 9.8%. Despite the higher fee and lower return than other options, I elected to stay in this portfolio because I liked the added diversity of the investments included. This portfolio has the lowest asset allocation of all my choices at 8%.

Asset Allocations for the Active Growth Portfolio
T. Rowe Price Inst’l Large Cap Growth Fund (TRLGX)	19.85%
T. Rowe Price Inst’l Large Cap Value Fund (TILCX)	19.85%
TIAA-CREF Small-Cap Equity Fund (TISEX)	4.40%
TIAA-CREF Real Estate Securities Fund (TIREX)	4.90%
DFA Large Cap International Portfolio (DFALX)	16.80%
DFA Emerging Markets Core Equity Portfolio (DFCEX)	4.20%
MetWest Total Return Bond Fund (MWTSX)	15.00%
PIMCO Real Return Inst’l Fund (PRRIX)	6.00%
T. Rowe Price Inst’l Floating Rate Fund (RPIFX)	3.00%
PIMCO Income Inst’l Fund (PIMIX)	6.00%

Source: Multi-Fund Investment Portfolios Page on ScholarShare

Enrollment Year Investment Portfolios

ScholarShare plans recently changed from having Age Based Portfolios to Enrollment Year Portfolios. This allows the investor to focus on when the student will actually need to use the money, instead of being based on his/her current age. While this terminology change helps with planning for kids who may be advanced for their age or those who might take a gap year, where the change is most helpful is for adult students planning on going to college! These portfolios are diversified among different asset classes and risk levels. The assets among the different investment areas are automatically rebalanced within the portfolio as the student gets nearer to the enrollment time frame.

My sons were previously enrolled in the Active Age Based Portfolios appropriate to each of them. I have adjusted their investments to be in the Passive Enrollment Year Portfolios based on the years they would go to college if they attend right after graduating high school (the 2024/2025 and the 2028/2029 portfolios). I have put 25% of their assets into their enrollment year portfolios. For those not wanting to go through the process of allocating money to multiple funds, putting 100% of your asset allocation into an Enrollment Year Portfolio would be a suitable option, given the diversity of the investments and the effort to minimize risk built into the portfolio. If you are interested in seeing the underlying investments in the Passive Enrollment Year Portfolios and how the percentages in each fund vary by enrollment year, check out the Enrollment Year Portfolio Page on ScholarShare .

Into the Future

I have set all future contributions to the plans to fund the portfolios along the same percentage allocations I have described regarding rebalancing. I have monthly automatic withdrawals set up from my checking account to contribute directly to each of my sons’ 529 accounts. Rebalancing of existing assets can be done twice per year, but allocations for incoming contributions can be adjusted at any time.

It can be difficult deciding how much money you ultimately want to save in a 529 account because there can be a lot of unknown factors when trying to predict the future. The cost of tuition varies greatly across different universities and States (look up rates at educational institutions at CollegeCalc). Where will your children want to go? Where will they be accepted? Will they get a scholarship? Will they leave part way through a program? Will you put more in the account than they actually need to spend? (That sounds like a good problem to have.)

If these thoughts worry you, remember that the account beneficiary can be changed any time. If you have money left over in the 529 plan from your first child, the remainder could be used for your second child, yourself, a niece, a nephew, or even a grandchild. There is no expiration date on the account. Of course, you could pull the rest of the money out of the account, but remember that withdrawals not used for education-related expenses are subject to state and federal income taxes and a 10% federal tax penalty on earnings. Additionally, California charges a 2.5% tax penalty on earnings from such withdrawals. While you are making financial plans for the future, remember to save some money in a high interest rate savings account or invest money in other financial products that can be used to help your child with non-education related expenses as they become adults.

Disclosure: Information shared on Squintillions is based on the author’s own experiences, thought processes, and research and is not intended as professional advice. Please do your own research before committing to any investment! If you feel your personal challenges are beyond the scope of my suggestions or other self-help materials, please seek professional counseling. Further, there are some affiliate links and ads used in this website. If you purchase an item when following these links, I may receive a commission on your purchase.