There is so much information on saving and investing for college, but how do you determine what advice you should follow in your planning stages? Michael Lynch, a financial planner with the Barnum Financial Group, offered reputable financial advice when he talked with Hanna and Cari on the College Talks & More show. He develops customized planning strategies for individuals, families, and business owners that enable them to build wealth, pay lower taxes and protect the people who depend on them for support. He also teaches consumer oriented financial planning courses to employees of corporations, government, and nonprofit organizations and school districts in Connecticut. His writings appear in both local and national publications.
Mike is a financial planner for people with special needs. As a father of a child with special needs, Mike is intimately familiar with the emotional, educational, and financial issues that special needs families face. Mike, can you please introduce yourself and tell us a little more about your educational and professional background?
Education-wise, I’m a West Coast boy. I have a degree from University of Washington in Political Science and a Master’s degree from San Francisco State in Economics. Back in my day, Bill Clinton coined the term “lifetime learner,” and I’m definitely one of those. Professional-wise, I was a writer for a while. I got into financial planning when I was 32 years old, and I just love it. It’s been great. I’ve been doing it for about 19 years now, doing it the same way I did it when I started.
Can you please tell us what a 529 plan is and who can invest in them?
A 529 is an account set up to pay for education. At this point they can pay for both K-12 and colleges and trade schools.
How can someone open a 529 plan if they are interested? Is there a minimum investment amount?
529’s are consumer friendly. Back to the first question, what is a 529 plan? It’s named after the section 529 in the tax code. They are each sponsored by a state, and they’re very easy to open. Minimums vary by plan, but they can be as low as $25. You can find them directly by searching whatever state you’re in. If I was in Massachusetts, I would look up Massachusetts 529 plans and see what comes up. There’s also services such as Savingforcollege.com. It’s a information clearing house that details each and every 529 plan.
What would you say is the benefit to investing in a 529 plan versus the stock market or a savings account?
The big, big, big, big, big benefit of a 529 plan is they allow for tax-free earnings, if you use the funds for qualified expenses. Some states also provide for upfront tax breaks off of state income taxes for contributions. If you’re going to use a 529 plan, you’re probably going to be invested in a mix of stocks and bonds. It’s going to be similar to investing in the stock market, except for you wouldn’t pay taxes depending on how you would invest in the stock market. It’s going to be better than doing a savings account. I think you want to match your vehicle to your journey. College is going to be a long-term prospect. I started saving for my daughter’s college when she was born. I knew I had 18 years, same for my son. Over those 18 years, if I have money in a savings account, it’s likely going to be worth less when they go to college than when I put it in, because of inflation. What you want to have is that compounding effect that the stock market and investing in diversified investments can give you.
What can the money in a 529 plan be spent on? Tuition, books, room and board, anything else?
All of the above. The IRS makes it very clear. They have a publication 970, and it’s actually very readable. If you have any questions, go right to the source, which is the IRS publication 970. It talks about what qualified education expenses are. In chapter eight is a qualified tuition program. So yes, they can be used for tuition. They can be used for books. It could be used for room and board on or off campus, depending on what the school publishes is reasonable. The one thing that it can’t be used for is healthcare expenses. Sometimes, with our clients, they send us a college bill and we carve that part out. We don’t want to have that part payed by the 529 for the student health fees, because it would not be considered a qualified expense.
Does a 529 plan apply to all continuing education types, such as trade schools, graduate schools, or any types of certificates?
In general, yes. If it can get financial aid, federal financial aid, it counts. Trade schools? Absolutely. For example, I had a truck license when I was 18, and I’ve now lost it, and I want to get it back. I may have to use some of my 529 plan to get my commercial truck license again. Certificates… if I was going to do a certified financial planning certificate, the answer is no, because that’s a certificate program. You have to be at least a full time college student enrolled in an articulated plan, so that one would not count.
Are there any tax credits or deductions with the 529 plan? Are there any tax benefits?
Yes. The tax benefits are really the whole game with the 529 plan. If we think about it, outside of individual stocks, you’re going to be in a mutual fund world. In a 529 plan, you could get close to anything you wanted, depending on the state that you picked. The key is the earnings. All the earnings are compounded. I literally have clients going to pay for college right now, expensive colleges where up to a hundred thousand dollars is income tax free, on the gains from the years that it was in the 529 plan. The tax deferral is unbelievably good. Second, some states will offer an income tax deduction at the state level. If you use a Connecticut plan, and you live in Connecticut, when you contribute, that money does come off of your Connecticut income. Some states offer that. To find out if you’re in a state that does, do a little bit of internet research.
It sounds like there’s a lot of benefits in investing in a 529 plan. On the other side, what fees are associated with a 529 plan?
The fees will vary by plan. The good thing about investments is the fees are fully disclosed, and they’re easily discovered prior to investing. There might be a small fee to set it up, $5 or $10, depending on the plan. If it’s a direct plan, you’re not going to pay for an advisor like me, you just do it yourself. You’re going to make your own decisions, do your own paperwork, and you don’t have that advisory level fee. Then you can see what’s called the expense ratios on the individual investments, right on a website or on a plan disclosure booklet within lines of other investments. The fees have been coming down. If you go through an investment professional, such as myself, there could be an additional layer of fees that would compensate the investment professional through your investment. That would be up to you. Some states, like Connecticut, sponsor two plans: a direct plan and an advisor plan. Some states only have a direct plan, and I don’t know if any states only have an advisor plan. You do not have to use the plan of your state, you can use a plan from any state.
Let’s just say that I opened a 529 plan for my son and he doesn’t go to college. What happens then?
The money does not need to come out, so you could leave the money in the plan. It’s never going to be forced out. Your son has a child, you could change the beneficiary, and it could be an education fund for your grandchild. It doesn’t need to come out, but if it does come out, there’ll be taxes and penalties on the gains.
Let’s say you put money into a 529 plan. Is it guaranteed that the money will be there when the student attends college?
It won’t be stolen. If it’s invested, it’s going to depend on investment returns. Each plan has many options, and I believe there’s even one that is a bank. In Connecticut, there’s a stable value option, and when your child gets closer to college, you can actually lock in your gains and be a little bit more conservative. It is going to go up and down, as both the good and the bad news. You have to be very careful as your child or you approach college. I like to say that investing for college is the hardest thing to do, because it’s like landing an airplane on an aircraft carrier. You’ve got to get down, and you got to stop. You have four years, that’s it. If there’s graduate school, you might have five, maybe six, years. It’s not like retirement, where I invest for you, and when you hit retirement at 65, you look me in the eye and say, “The market has dropped.” I tell you to relax, because you’ve got 30 years. You’re still a long term investor. For the investment in a 529 plan, it is going to be very important for people to select a plan that has options that are going to meet their preferences for growth and an ultra for safety.
What can a parent or grandparent expect for return? If they invest one thousand dollars, what are they getting back? How much time does it take to get that back?
It’s going to be the same as other investments by the same category. Here’s what I mean by that: If I’m investing in a balanced mutual fund of stocks, bonds, and cash, and we look back on investing, we know what happened in the past, but the past does not predict the future. I did a radio show for 10 years. The first thing I would always say is, “Don’t take specific advice from a radio show because you have to apply it to your situation.” I’m going to give that same caveat here. In general, it’s good to use the Rule of 72. The Rule of 72 says that the rate of return you expect divided into 72 is how long it takes for your money to double. At 7%, a thousand becomes 2000 in seven years, and in 14 years it becomes $4,000. So I would encourage the listeners to again, do a little research on your state’s 529 plan. If you have a financial advisor, talk to your financial advisor, look at what returns have been over various periods, and you can get a sense of what you likely can expect.
I’m thinking about opening a 529 plan, and I have two kids. When should that be started? Is there a point where it’s too late to open a 529 plan?
First, when I work with my clients, we start them immediately. We wait to use a social security number. I think I have started some when people were still pregnant, and I did it in the parent’s name, and then we moved it to the child’s name once the child was born with a social security number. Typically, we’d wait until the baby is born, but I love starting it at age zero, because now we have 18 years to get that money in. I like to say, “Inch by inch, it’s a cinch, but by the yard, it is hard.” Right? When I started out here, the colleges that our clients typically targeted would take $300 a month, which would get you through a public school. It would be close to a $1000 a month for the more expensive private schools based on the reasonable assumption. Start your 529 plan early.
Second, there are great ways to do it, even at the point of going to college. One of the things I mentioned was the state tax breaks for 529 contributions. In states that have tax breaks for 529 contributions, oftentimes with clients, I will just funnel the money right through it. I put $10,000 in the 529 plan, get the tax breaks, and the $10,000 then goes to the college. So if they are at the point of going to college, we’d be using a different investment strategy. We wouldn’t subject that to market fluctuations at all, because we’d be needing to spend it at that point.
What are the different types of student loans that are available to someone who needs the extra cash?
In general, there’s grants, loans, and then more loans. You have the grants that are based on need and or merit. Those typically are going to come either from the Federal Pell Grant Program, based on the need, or come from the school based on the merit. The ones from the school are really just tuition discounts. Don’t ever assume that you have to pay the sticker price of a school that you’re going to attend. I once gave a speech to a group of relatively low income workers in Connecticut. I put up the cost of UCONN, a junior college, and for Yale. One was around $60,000, one was $25,000, and one was $15,000. I asked which is the most expensive school for you to go to, and which is the least expensive. I’m not sure what I said for the most expensive, but guess what I said for the least expensive? Yale. If you get into Yale, and you’re low income, you’re paying zero. It’s a need blind school. My ex wife used to teach at Stanford and then she taught at Yale; we would take kids from San Francisco down to Stanford, and we’d explain that if they got into Stanford, it’s free! Zero! Don’t confuse the sticker price with the price you’re actually going to pay. Dream big, go big, then make the financial decisions on the backside. That being said, you have federal subsidized loans. The interest is not accruing until six months after you graduate. And of course, you have private loans on the borrowing market.
What is the difference between a private and federal student loan?
The federal loans are backed by the government and the rates are set by the government. I think the rates, in general, are lower than the private loans. Although not always, because there are certain companies that are really targeting and marketing to people, not targeted in a bad way, but in a good way. The private loans are given out in the private marketplace. The federal loans do have limits. You can’t borrow enough to finance the whole college due to a federal law that limits them. Their limits would not typically pay for the whole college experience, but it might cover the cost if you lived at home and just had to pay the tuition.
Can a student loan be refinanced?
There’s a lot of services out there now that are offering refinancing. What I would caution you is to be a little bit careful with refinancing the federal student loans, because it’s a political issue now. And there are some loan forgiveness programs that you may be eligible for. And there may be new ones that they create. And if you refinanced, consolidated, and took your federal student loans and put them on a private loan, and then Congress passed a bill, and the President signed a bill into law that was going to forgive your federal student loans, you would not be happy. So I would consider all the programs that are out there before you would refinance a federal loan on a private one.
Is it more beneficial for a student or the parent to take out the student loans?
It’s usually more beneficial for the student. Also, the way I look at it with my clients, it’s good for students to have skin in the game. We hear a lot about these big, big student loans. The last time I looked up the data on the Federal Reserve Survey of Consumer Finances, the original student loan was about $20,000. It was actually less than the average car loan. So for kids to know that they have to pay back some money after they get done with their education, that’s not necessarily a bad thing. It helps them stay focused on the goal, which is to get education and be productive. Now, there is a big difference of course, between $20,000 and $200,000. That could be a big burden on the way out. There’s always going to be variation. But, on average, I think that student loans are good thing cause they do facilitate a human capital. They help people, everybody, can get an education.
What made you decide to become a financial planner with an emphasis on special needs clients?
I have a special needs daughter, and she is a gift from God. A lot of things can happen with special needs children. One, they can be very, very expensive, very early, so they can put a tremendous amount of financial stress on families and that stress needs to be dealt with. That needs to be planned for. Second, special needs children are going to be dependent. They may be dependent, may not. I have great client cases where people thought their special needs children were going to be dependent, and lo and behold, boom, there’s a place in this world for so many people, right? My daughter is always going to be financed by me. So what you need to do is you need to start planning for that early, and you need to put structure in place for when you’re not around. I say I specialize in special needs, because I do. I’m happy to do it for clients, and I do a lot of it. It’s definitely not the only thing that I do.
So how has working with special needs clients different from working with your other clients? Or is it different?
Special needs planning is usually upside down financial planning. My daughter was diagnosed on the autism spectrum, and I live in Fairfield County. Autism in Fairfield County is very expensive, because there’s all these private services, and everybody’s telling you what you need to do. I think we were close to paying the cost of private school when she was two, she was diagnosed at one and a half years old. We had to find ways to put money together, rely on family, borrow money, because when you have a child, and you’re trying to do everything you can for this child, you’ll find ways to pay for their care.
People were saying, “Well, you need to do this.” I call it the autism industrial complex. It’s going to cost $10,000. You have come up with $10,000. You have to deal with the school district, and that requires lawyers. The lawyers are needed, because the school is required to give your child a free and appropriate public education, but free and appropriate are defined very differently from a parent’s point of view than the school’s point of view. The expenses comes earlier in the child’s lifetime. At the end, the kids can’t have money in their names if they’re going to rely on public and government programs. If we take somebody, like my daughter, who would never be able to earn a living when she’s 18, 19, she’s eligible for Medicaid, she’s eligible for some income assistance. These are all means tested public support programs, maybe some housing. Typically in many cases, the price of admission is you can’t have money, but the program itself is not enough to provide a quality of life that we want for our children. So we need to get money into a special needs trust. That’ll preserve the ability of the child to get the government programs that they need and rely on, but also give them a lot of extra things in life that they’re going to need.
Is there any other advice that you want to give to us?
Financial planning is about time and money. When you have a baby, let’s get some money going into an account every single month that’s earmarked for higher education. If you went to college, and your spouse went to college, there’s a pretty good chance your kids are going to go to college. What you want to do is you want to put that time on your side and let the money double and double and double. Don’t wait to the last minute. You know, I love working with people in their twenties and thirties. I call it the infrastructure for success. I get them invested in their retirement plans. Then we do Roth IRAs on the side. Then the Roth contribution could turn into 529 contributions. I make sure they have disability income insurance. If they get disabled, their life doesn’t fall apart. Then when they get dependents, I make sure they have life insurance. If something happens to them, their family is going to at least financially be able to stay in their world and survive.
For more information about Mike Lynch and the financial services he offers, please visit his page at Michaelwlynch.com.
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