As I note in Unconventional Investing, 529s and 401ks are very appealing due to their favorable tax treatment, but are lacking in terms of investment control and selection. Many of these accounts typically offer less than 20 investment options (I label this the Tragic 401k Handcuff in Chapter 5) and to boot, 529s only allow the account owner one investment change per year. So why would someone invest in these accounts? Oh yes . . . it is the favorable tax treatment these accounts provide! Minimize that incentive and you are not left with an appealing savings account (in my opinion).
Moreover, in Paying for College Without Sacrificing Your Retirement, I note that there are four primary ways to meet college expenses: Savings, Cash Flow, Loans, and Financial Aid. Less motivation to save for college will force many families rely on the remaining options, which includes additional borrowing. That is not something I am in favor of . . . but what about Washington?
As noted in a 2013 edition of the USA Today: “According to the Congressional Budget Office's latest projections, the federal government projects a record $50-billion profit on student loans this year. ExxonMobil made $44.9 billion in 2012, according to published reports, making it the most profitable company in the country.”
With costs at many private colleges exceeding $240,000 (over four years), and often with more than one student in a family attending at one time, the opportunity for need-based aid should not be ignored. However, nothing negatively impacts a family’s chances at obtaining need-based aid more than student assets and/or income (true for all families, no matter the income). Taxing gains to the student (put forth in the proposal) may severely penalize families even more for utilizing these college savings accounts. For example, $10,000 in gains taxed to the student will reduce their need-based aid by approximately $5,000.
Tackling the high costs of college is a challenge for most families. I know the purpose of the proposal is to increase tax revenues, but targeting college savings plans just doesn’t seem right.
Another proposal is to make community college free. Did you know that once a family (with an AGI of $160K or less) that spends $4,000 on higher education costs can get a $2,500 tax credit (American Opportunity Tax Credit)? Community college is practically free already for many families. *Note: The American Opportunity Tax credit can be applied to all colleges.
My final word: College is big business for many entities (as noted above). You have to look out for yourselves, self-educate, and become smart college consumers. As a parent of two, I too cringe at any additional headwinds to meeting future college costs.