FAQs about paying for college

I want to help my child or grandchild go to college. What can I do to make sure that funds are available when the time comes? There are various methods by which you can plan to fund a child’s or grandchild’s college education, but the best way varies according to each person’s financial situation.

What are some of the major issues to take into account? As a parent or grandparent, several issues regarding funding college should be looked at carefully. These issues include whether or not you want the money you give to be included in your estate if you should die before your child or grandchild reaches majority age, how much control you want over the money while you are saving, and whether the money will grow tax-deferred or tax-free.

What does Texas offer for funding college? Texas provides its residents several vehicles for funding college. Perhaps the best-known method for college savings is the Texas Uniform Transfer to Minors Act (TUTMA) account. However, in the last few years, the Guaranteed Tuition Plan (which was formerly known as the Texas Tomorrow Fund) has been a popular choice for parents and grandparents saving for college. Texas also has a 529 Plan that is discussed below.

What are the advantages and disadvantages of a TUTMA account? For gifts made by using a TUTMA, the gift must be made to a person as custodian for the beneficiary and the beneficiary must be under the age of 21 at the time the gift is made. The main advantage is the relative simplicity of the process. Generally, an account is set up pursuant to the Texas Property Code and transfers of money, real estate, investments, etc. are made. The principal disadvantage of the TUTMA is the fact that the beneficiary takes full control of the account when he or she turns 21. This could be dangerous if the child lacks the maturity to deal with a substantial amount of money or simply wants to do something different than the custodian or person giving the gift originally intended. Another disadvantage is the fact that the funds will be includable in the parent’s estate if the parent is custodian and dies before the child reaches majority. There may also be differing tax consequences for parents as opposed to grandparents in gifting to a TUTMA.

What are the advantages and disadvantages of the Guaranteed Tuition Plan (formerly known as the Texas Tomorrow Fund)? The Guaranteed Tuition Plan (GTP) is offered by the State of Texas so that those saving for a child's or grandchild's education can lock in tuition for college at current prices. The principal advantage of the GTP is that the plan benefits are constitutionally guaranteed by the State of Texas. A parent or grandparent may purchase a contract in the GTP for the minor, and that minor’s college tuition is guaranteed when they enter college. Other advantages of the GTP are that the distributions made are tax-free and the amounts given by the donor are not includable in that donor’s estate. The obvious disadvantage is lack of control if the beneficiary does not want to go to college or receives a full scholarship. The donor may receive a refund equal to the average amount of college tuition. This will result in that money being includable in that person’s estate if they do not dispose of it by gift again.

What is a 529 plan? A 529 plan is a federal plan (sponsored by individual states) that has become increasingly popular in recent years. It is similar to the Guaranteed Tuition Plan except that the beneficiary’s tuition is not guaranteed when they reach college. Generally, a 529 plan offers more flexibility and control, but is also more risky than the GTP. A parent or grandparent can set up a 529 plan for a minor and have that gifted amount taken out of their estate, and upon distribution the funds are tax-free. The person establishing the plan may change beneficiaries during the plan and usually can choose the basic investment program the plan will follow. Contributions made to a 529 plan fall under the annual gift tax exclusion and donors have an option to consolidate up to five (5) years annual gifts in the first year. However, this may have major tax implications if other gifting is possible during that time.

What are some other methods for college saving? There are various other ways to save for college, including simply saving and investing money yourself. This allows you to keep control and flexibility with the savings. When the time comes to pay college expenses, these amounts can be paid without any gift tax consequences, since the Internal Revenue Code allows what would otherwise be taxable gifts (gifts exceeding the annual gift tax exclusion amount, which is $11,000 per year for gifts made in 2003) to be paid as tuition and other college expenses if they are paid directly to an educational institution. However, there are three major problems with this method. First, since the funds will not be placed in a special savings vehicle as described above, the funds will not grow tax-deferred. In other words, the funds will be taxed as they grow, meaning that they will grow at a slower rate than funds similarly invested in tax-deferred vehicles. Second, the funds will be includable in the person’s estate if they die before the funds are used to pay for the minor’s education. Third, the funds are not protected from your creditors if you have to declare bankruptcy before your child reaches college age. (Of course, the money is available to pay your creditors, which may keep you out of bankruptcy).

There are pros and cons about each of these methods of saving for college. Contact The Karisch Law Firm, PLLC for more information.