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Carla Fried: Paying for college – essential list of dos and don’ts

Well-intentioned parents want the best for their kids. But raiding their retirement today to pay for a child’s college means they may not have enough to support themselves through retirement.  (Associated Press)
Well-intentioned parents want the best for their kids. But raiding their retirement today to pay for a child’s college means they may not have enough to support themselves through retirement. (Associated Press)
By Carla Fried Rate.com

With list prices that can be more than $50,000 a year, college can be a huge financial sinkhole for families that don’t plan and shop wisely.

Case in point: Nearly 1 in 5 people who take a hardship withdrawal from their 401(k) retirement plan do so to pay college tuition or other school expenses, according to the Transamerica Center for Retirement Studies.

Well-intentioned parents want the best for their kids. But raiding their retirement today means they may not have enough to support themselves through retirement. Which means their kids may eventually need to step in and help. Which is no parent’s goal.

To avoid trouble and get the best deal on a quality education, follow these rules:

Don’t touch retirement savings. Period. No withdrawals. And no 401(k) loans either. The big risk is opportunity cost. Pull out a chunk of money, and those are dollars that stop compounding for you. The stock market tends to grow in sudden spurts, not a smooth line. For example, in the 15 years through 2020, a $10,000 investment in the S&P 500 would have grown to more than $41,000. But if you missed just the 10 best trading days over that 15-year period, you would have less than $19,000. Just 10 days changed the annualized return from nearly 10% to 4.3%.

The other problem is that your best intentions to eventually refill your retirement savings may prove elusive. Plenty of people who expect to keep working at their career job through their 60s end up pushed out before anticipated. And of course, illness may intervene, or the need to be a caregiver for a loved one.

Don’t slow down on retirement savings. For all the reasons just explained there is never a good time to slow down on contributing to your 401(k) or IRA. That must remain a priority.

Don’t start eyeing the home equity. For homeowners, chances are your home’s value has been on a tear of late. A national index of home values is up 18% in the 12 months through June 2021. The five-year national gain is more than 40%. That makes a home equity line of credit (HELOC) viable, right? Be very careful. In the extreme event that you can’t repay the line, you could lose your home.

More practical is thinking through how you would repay the HELOC. If your plan is to eventually sell the home and pay off your mortgage and the HELOC, where would you move next, assuming you would net less in profit after paying off both debts? Moreover, there’s no law that says today’s high values are a floor, not a ceiling. As we all know from recent history, prices can go down.

Don’t borrow first. The federal PLUS loan program for parents to use to pay for college is not nearly as good a deal as federal student loans your kid can qualify for. (All students can qualify for federal loans regardless of family income.) Moreover, there are safety guardrails on how much an undergrad can borrow through the federal loan program. A huge problem with the parent PLUS program is it allows unlimited borrowing to pay for college, regardless of whether parents can actually afford to borrow the money.

Do become an informed consumer long before your kid’s senior year in high school. A worthwhile investment is the book “The Price You Pay for College” by Ron Lieber.

Seriously consider if a four-year degree is necessary for what your child wants. There are plenty of solid careers that require a two-year associate degree, and getting one from a community college can be a financial win for the entire family. Insisting your kid get a four-year degree when they aren’t interested in a career that requires a four-year degree is likely not going to be a great experience for anyone.

Or the family plan can be for the student to start at a community college with an eye on transferring to a four-year college. That can save a ton of money as well. Just be sure to know the ropes on how to make the transition.

Look for schools that will pony up an affordable net price. All schools are required to publish their net price, the typical out-of-pocket costs to attend. For four-year private schools, the average net price is 45% less than the list price. The catch is that you need to focus your child’s search on schools where they will want to offer you not just admission, but also a steep discount.

Consider the potential future value of a given degree. Read my colleague Arianne Cohen’s explainer of a valuable college cost/payoff dataset of post-graduate earnings and debt for specific degrees at specific schools.

Scour a financial aid offer for trickery. Some schools like to play fast and loose by including parent PLUS loans as part of the aid package. If after bargaining with the aid office the necessary family contribution is going to be a long-term ball and chain for your family, the smart move is to decline and consider another college that will not upend your family’s long-term security.

Rate.com/research/news covers the worlds of personal finance and residential real estate.

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