Saving For College (And Everything Else)
Max out 529s and all tax-advantaged accounts
529 education savings plans were launched in 1996. My immediate reaction was that they were great and would only get greater. Max them out (along with every other tax-advantaged accounts). As I wrote in 8 Ways To Secure Your Future, diverting money from spending to tax-advantaged investing is a twofer:
Max out all tax-advantaged accounts. Not doing so is stealing from yourself.
It is excellent news if you are currently maxing out your Roth IRA and have been for years. That is the third most important priority. Roth IRAs are terrific vehicles and not maxing them out is simply stealing from yourself. 100% of wage earners should be doing the same. Besides the tax advantages, when you pay yourself by funding your Roth IRA, it is easier to be frugal because you lack convenient access to that money. As far as allocations within your Roth IRA, don’t change frequently. My first choice would be a passively managed index fund or ETF such as SPY. If you have a good annual income, you can go a long way to being a good steward of that money through tax-advantaged accounts.
Most investors know that. But some invest the relatively modest amount allowed in IRAs while foregoing the bigger savings available in 529s due to their nominal limitations. My theory from day one has been that the limitations would loosen over time. In fact, that was my first blog post I ever wrote on Seeking Alpha, Back To School?* * While sheltering capital gains and dividends from taxes at a scale that dwarfs IRAs and 401(k)s. How has that fared so far? It has made a tax-advantaged $2.4 million per beneficiary. And there’s very little that can go wrong. As I mentioned in Seeking Beta: The World’s #1 Passive Fund,
Vanguard claims that, “we hire top investment professionals with the experience and expertise you’d expect from Vanguard” but this is an unmanaged fund, so as long as they can keep the books straight, they could also, “hire psychotic crack fiends with the experience and expertise I’d expect from San Quentin” for all that I would care.
In Hedge Yourself, I pointed to the raised limit for the Nevada 529:
If you’re married with kids, each spouse can immediately put $500k in a Vanguard Nevada 529 plan invested in their S&P 500 index fund. It charges 13 bps and is tax efficient. You can also invest another $34k per year (half from each spouse) per kid in their account. The benefit is tax-free compounding. The cost is the inflexibility of the plan’s investment (no brokerage option) and the limitations of how the money is eventually spent. That limitation is trivial to me. I never spend tax-advantaged dollars anyway because they are worth a premium to taxable dollars. Also, it is all too easy to find academic expenses for this money.
But approved uses are likely to be expanded over time. Worst comes to worst, their penalty is so small that you’ll come out ahead as long as you can first compound tax-free for a long (think decades not years) period first.
Maybe you’ve already saved for college; maybe your kids don’t even want to go at this point. You should still max out your 529 and put it all in a broad based equity fund equivalent to SPDR S&P 500 ETF Trust (SPY). Not only is that initial day one deposit from my first disclosure of this idea on this site now worth over $3.1 million per beneficiary, but each of those tax-advantaged dollars are worth more because the account is increasingly flexible. Up to $35k of unused dollars from 15 year old 529s can be rolled over into Roth IRAs. Grandparent accounts no longer count against beneficiaries’ federal financial aid. The gift tax exemption is up to $18k per beneficiary, allowing for greater ease of funding.
Caveat
So far, the 529 to Roth conversion is good for only about 1% of the tax-advantaged money in this idea since it was first disclosed. But my hope and expectation is that this relatively trivial amount will expand over time. There are other limitations including the fact that I don’t have any way to actively manage my 529s. I am happy to use them for passive exposure so it isn’t a huge problem, but I wish I had more choices.
Conclusion
Max out your 529 (and all tax-advantaged accounts — from IRAs to 401ks and if you have $10 mil to put to work a PPLI). Shift what you can when you can to a Roth IRA. Robinhood (HOOD) recently concluded a staggering 3% match on Roth IRA deposits and transfers. While it expired, I expect it to come back sometime soon. Consider taking advantage of that free money.
TL; DR
My first Seeking Alpha post is slowly playing out — making millions of tax advantaged dollars and getting more choices of how to deploy them.
What should I do now?
- Do as much as possible for as long as possible to avoid taxes.
- Join Robinhood for a free stock while you wait on the 3% match returning.
- Speaking of 3%, join the waitlist for the unlimited 3% cash back Gold card.
- Upgrade to Robinhood Gold to get priority treatment on the waitlist.
- You can even combine it with Plasiq to make money paying your mortgage.
