Saving for college? Consider these 5 accounts to help you reach your goals

By Jason R. Friday, CFP®, MPAS®, RICP®, CMFC, Head of Financial Planning | Citizens Wealth Management

_{As Head of Financial Planning, Jason is a strategic partner who is responsible for developing the strategy, managing the planner teams, and coordinating personal financial planning activities across Citizens Wealth Management to help clients navigate and grow in changing circumstances.}

Whether your child has just arrived in the world, is in elementary school or approaching high school, you want to be prepared for the future.

Are you wondering what the best option is to set aside money for your child's education? You've got options, from 529 plans to certain types of retirement accounts. Read on to learn more about the different types of college savings accounts and ways to meet your goals.

529 plans

529 college savings plans are specifically designed for saving for your child’s education. This popular option offers tax advantages, plus the potential to earn a return on your investment.

What's a 529 plan?

A 529 plan helps you save for educational expenses. Originally, that meant postsecondary education, such as a four-year college degree. But more recently, the rules surrounding 529 plans have loosened. You can now use some of the funds to pay for elementary, middle or high school, too.¹

529 plans are tax-advantaged accounts. While the money is in the account, you pay no income tax on its earnings. When it's time to use the money, withdrawals are free from federal income tax. Most states also exempt the earnings from state income tax, provided the money goes toward qualified education expenses.

Every state — and the District of Columbia — offers at least one 529 plan. But it's worth noting that each state's 529 plan has a different investment portfolio since they're separate funds managed independently of one another.

How does a 529 plan work?

You open a 529 plan, make post-tax contributions to the account, and then you can invest that money into various investment options. Over time, those investments could grow through earnings and compound interest. When it comes time, you can use the 529 funds for qualified education expenses — like tuition, fees or books — and your withdrawals are generally tax free.

If your withdrawals are not used for education-related expenses, then the principal portion of the withdrawal (the amount which you contributed yourself) won't be taxed. However, the earnings on disbursements are classified as taxable income, meaning that money will be taxed. Plus, you could pay an additional 10% federal penalty tax on those earnings as well.

Pros of a 529 plan

The benefits of a 529 plan include:

• Specifically designed for saving for education
• Can be used to pay for K-12, higher education and student loan repayments
• No annual contribution limit (although each state has their own aggregate limits)
• Anyone can contribute — grandparents, parents and friends

Cons of a 529 plan

The drawbacks of a 529 plan include:

• Limited investment options
• Using funds for non-qualified expenses could result in penalties and taxes on earnings
• 529 plans could impact financial aid eligibility

Coverdell Education Savings Accounts (Coverdell ESA)

A Coverdell ESA is another account with tax advantages that could help you save and invest toward your child’s education goals.

What is a Coverdell ESA?

A Coverdell ESA is a type of trust or custodial account that is specifically designed to help pay for qualified education expenses. It functions similarly to 529 plans, but with key differences in contribution limits and investment options.

How does a Coverdell ESA work?

Once the account is established, you can choose how to invest the money on behalf of your child or beneficiary. Contributions to a Coverdell ESA are not tax deductible. However, like a 529 plan, earnings in the account can grow tax free and withdrawals are also free from federal taxes when used for qualified education expenses.

Generally, there is a broader selection of investment options available for Coverdell ESAs compared to 529 plans. Conversely, Coverdell ESAs have limitations. The annual maximum contribution that can be made is $2,000 per beneficiary.²

There are also income restrictions that determine who can contribute to a Coverdell ESA. You cannot contribute to it if you earn more than $110,000 (single) or $220,000 (married filing jointly).

Pros of a Coverdell ESA

• Save for college in a tax-advantaged account
• More investment options than 529 plans

Cons of a Coverdell ESA

• Low annual contribution limits
• Income restrictions

Custodial account

A custodial account can be used by adults to save money on behalf of a minor and can provide another way to save for college.

What is a custodial account?

A custodial account is a savings or investment account managed by an adult (typically a parent or grandparent) for a minor until they reach legal age. Two types of custodial accounts are the Uniform Gifts to Minors Act (UGMA) and the Uniform Transfers to Minors Act (UTMA). These can be used for many purposes and are not limited to just saving for education expenses.

How does a custodial account work?

After opening the account, the custodian can add money to the account, invest in a variety of different investment options, and manage the account. They can also withdraw money from the account to use for the benefit of the minor. Once the minor reaches legal age (typically between ages 18 - 21, depending on your state), they gain control of the account and can use the funds as they wish.

Custodial accounts don't have the same tax advantages as 529 plans. Some of the earnings may be exempt from federal income tax, but the minor will generally need to file a tax return and pay taxes on income generated in the account.

Pros of a custodial account

Some of the benefits of choosing a custodial account include:

• Flexibility for using the funds in the account
• No income or contribution limits
• Anyone can contribute to the account

Cons of a custodial account

A few of the disadvantages of a custodial account include:

• Once they are legal age, the beneficiary becomes the full owner of the account which could be a concern for parents
• Account beneficiary can't be changed
• If your child reaches legal age while applying for financial aid, the account becomes theirs and any money in the account could impact their financial aid eligibility

Traditional savings accounts

A traditional savings account may not be the first thing you think of when paying for college, but it can play a supporting role in your child's future.

What is a savings account?

A savings account gives you a place to safely hold your money and save for the future. You can open an account in your child's name or in your own and designate it for their educational expenses.

Should your child decide not to go to college, they can use the money in the account however they wish. The same is true for if you set up the account in your own name — you can use the funds to help another child pay for school, go on a family vacation or fund your retirement.

How does a savings account work?

Once you've opened a savings account, you can fund it through check, cash deposits or by setting up direct deposit from your paychecks. The account earns interest, though how much depends on various factors.

Savings accounts held at FDIC-insured banks are insured up to a standard amount of $250,000 per depositor. Additionally, these accounts provide easy access to your money and flexibility to be able to withdraw from it.

Pros a traditional savings account

Some of the advantages of saving for college with a traditional savings account include:

• Freedom to decide how to spend the money
• Earns interest

Cons of a traditional savings account

A few drawbacks of using a traditional savings account for education include:

• No tax advantages
• The interest rate earned on the account may be low compared to other alternatives

Roth IRA

A Roth individual retirement account (IRA) is a way to save for retirement, but some of its characteristics may make it an appealing account to save money for college.

What is a Roth IRA?

A Roth IRA is a tax-advantaged retirement account. When you contribute to a Roth IRA, you contribute after-tax income. Then, when it's time to withdraw the money in retirement, you don't pay income tax on contributions or earnings as long as certain conditions are met.

How does a Roth IRA work?

How can you use a Roth IRA to pay for your child's education? Once you turn 59½ and meet certain criteria, you're free to tap into your Roth IRA and use the funds, tax-free, however you'd like.

If your child is headed off to school before you reach 59½, there are still ways to access the money in your Roth IRA and use it to pay for their education. You can withdraw your original contributions from a Roth at any time without paying taxes. If you withdraw the earnings from your account to pay for qualified education expenses, you'll have to pay income tax, but you could avoid paying an additional penalty tax.

Roth IRAs do have contribution limits to consider too. For 2025, if you are under age 50, you can contribute up to $7,000 per year into your account. If you're over age 50, catch up contributions allow you to contribute up to $8,000 annually. If you earn more than $150,000 per year, the amount you can contribute is reduced.³

Pros of a Roth IRA

A Roth IRA might be the right option for your college expenses because it:

• Offers a tax-advantaged way to save for retirement or your child's education
• Allows access to your original contributions without penalty
• May have less of an impact on your child's financial aid offer, since the account is in your name

Cons of a Roth IRA

You may want to avoid using a Roth IRA to pay for college because:

• Tapping your IRA to pay for your child's education can eat into your retirement savings
• Annual contributions are limited and may be reduced or eliminated based on your income
• If used before age 59½, withdrawals of earnings are subject to income tax even if used for qualified education expenses

Comparing the plans: Which is right for you?

Given the cost of tuition and other education expenses, your best bet may be to use a mix of several options to help your child be ready for their future.

Planning for education funding needs

It's never too early (or late) to start saving for your child’s education. At the end of the day, the account you choose to save for college boils down to what makes the most sense for you based on your needs and objectives.

Funding one or multiple college educations can be complex, but we are here to help guide you. A Citizens Wealth Advisor* can help you balance saving for future education needs with other important short-term and long-term goals. Contact a Citizens Wealth Advisor today for a personalized plan and advice to help you each step of the way.

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