Financial Literacy 101: College Savings, Loans, and More
Welcome to the start of a new semester…one ripe with opportunity, learning, social awkwardness - if you’re anything like I was in college – and, of course, all of the costs associated with it.
If you’re like a lot of people in the United States, you’ve probably thought a lot about having to pay for you, your child, your grandchild, and/or anyone else close to you, to go to school. I’ll admit that it’s a pretty daunting thing to deal with, especially when you look at how it will affect your financial life. While I’m not going to attempt to write something that will make all of your worries go away, I wanted to take this opportunity to talk about various ways you can pay for school and mention a few things you should not do.
The discussion of paying for college and the cost of college is not complete without talking about student loans. Student loans provide many with the opportunity to get a college education that they couldn’t afford out-of-pocket. While there are certainly horror stories of people being trapped under thousands and hundreds of thousands of dollars of student debt, student loans – on the whole – are not a bad thing.
One way to look at them as they are one of the few – if not the only – types of debt where the borrower controls a good portion of the value of the investment. This is not to say that other factors don’t play a part in the return on investment, but rather that by making the most of their college experience, the borrower can increase the likelihood that the investment will turn into a positive trajectory post-graduation.
When it comes to student loans, the most important conversation that needs to take place is between the student and parent/guardian about how much actually needs to be borrowed. The important thing when taking out student loans is to only borrow what you need and not what is offered. Doing so will increase the likelihood of not being saddled with an unbearable amount of debt post-graduation.
Before student loans even become a part of the college funding decision, a household needs to take stock of how much in personal savings they have that can go toward funding the education. In many cases families open up specific college-savings accounts - such as a 529 account - to help fund educational costs. In my cases, these types of college-savings vehicles have tax advantages attached them. For example, Indiana residents are eligible for a 20% tax credit – up to a $1,000 credit – every year for contributions made to a 529 account. Essentially, this means that you could get $6,000 of college for $5,000…or $1,200 for $1,000…or $120 for $100. Regardless of how much you put in, the fact remains that these accounts are easy ways to get a little bit of extra money to go toward college.
Beyond that, what’s most important is that research shows that students who have accounts opened specifically for college savings are more likely to attend, and graduate, college. This should not be glossed over. By opening an account for a student, they are more likely to succeed. That’s not a bad incentive in of itself.
What Not to Do:
This is pretty simple. If you’re a parent of a student, don’t financially strain yourself in order to pay for your child’s college education. Essentially, this means to not do anything that could jeopardize your ability to retire: don’t withdraw money from your retirement savings to pay for college, avoid taking out a second mortgage, and avoid Parent PLUS loans.
While I would prefer the PLUS loans to taking out private student loans, the fact remains that you should avoid taking out loans that you are responsible for, in order to pay for your child’s college. While it is noble that you want to help prevent your children from feeling financially stressed, things will be even worse later on when your retirement is in trouble and you have to rely on your child to get you through those times, potentially stressing them out.
The bottom line is that you should avoid doing anything that hurts your financial future. While it may be difficult because you want to help you child avoid student debt, don’t do it.
There’s a lot more to funding college than what is written here. At the very least, have an open conversation with your child about what the plan is for funding their education. If you need additional assistance, feel free to reach out to the IU Office of Financial Literacy (moneysmarts.iu.edu) to get your questions answered.
Written Phil Schuman, Director of Financial Literacy at Indiana University - Bloomington. Phil is an Indiana Assets & Opportunity Network Steering Committee Member.