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How to Pay for College Without Cash

By Robert Falcon

  • May 8, 2024
  • 6 min read


counting cash

Many parents are aware of the astronomical cost of college but are still at a loss on the best way to pay for it. The College Board notes that the average “all-in” cost of attendance at four-year in-state public and private schools for 2023-2024 was $28,840 and $60,420, respectively. Furthermore, the total cost of college is often more than four times those amounts.

Finding cash to save for college is easier said than done. Between raising kids, saving for and buying a first home, paying off student loans, and saving for retirement, parents between 20 and 40 are financially tapped out. They’re not very interested in saving for a college bill that might be due in another 18 years if their child attends college. And I almost forgot … just raising a child to 18 will cost parents between $250,000 and $300,000.

But there is one strategy that can help, and it involves gifting appreciated securities.


How much should be saved for college

Let me give some hard numbers about what new parents need to save to send their kids to college. I’m from Pennsylvania, so with a home field advantage, let’s compare Penn State (an in-state public college) to Villanova (private college). Since aid, scholarships, and loans may cover a portion of the cost, I’ve shown the future cost and annual amounts that new parents in 2023 must save to pay for 100% and 50% of a 4-year education at these schools.

This table shows the impact of compounding and why you should start saving early. A family that waits until their child is 7 will need to save more than twice the amount per year than if they had started saving at their child’s birth.

But let’s assume the family chooses to save $10,000 per year starting at the child’s birth, as this is roughly 100% and 50% of the annual savings required to attend Penn State and Villanova, respectively. How can you save $10,000 per year for college without using cash?


Gifting appreciated securities

Many employees are compensated partially with company stock in the form of Restricted Stock Units and/or stock options. Others have stocks, mutual funds, or ETFs that have appreciated over time inside their personal portfolio. By gifting appreciated shares to their minor children, parents can avoid paying capital gains tax while shifting income to their children who can then fund their own tax-preferred savings vehicles for education.

Step 1. Gift appreciated securities to your child.

Each parent can gift up to $18,000 ($36,000 for married couples) to each child each year without filing a gift tax return. You can set up your child’s UTMA/UGMA account where you hold your investments and transfer the appreciated securities to your child with a few keystrokes. If the securities have appreciated in value, the minor recipient will recognize capital gain income when these securities are sold. Here’s where it gets tricky.

Step 2. Sell securities and avoid the Kiddie Tax.

In 2024, minors can recognize up to $2,600 of unearned income (such as capital gains, interest, and dividends) without paying any federal income tax. After the gifted securities have been transferred to the minor’s account, they can be sold in the child’s UTMA/UGMA account, and the first $2,600 of capital gain will be taxed at their 0% rate.

If you can do it, select and gift securities that will trigger gains of $2,600 or less. If you trigger gains more than $2,600, the gain in excess of $2,600 will be taxed at the parent’s tax rate.

Step 3. The minor invests all proceeds into Coverdells and 529 plans.

Ideally, we will want the amounts gifted for college to grow tax-free. Coverdells and 529 plans are the two most popular vehicles to accomplish this. Coverdells are not as popular as 529 plans, but for those that qualify to use them, they have some advantages over 529 plans. The first $2,000 can be invested in Coverdell with the balance contributed into the student’s UTMA/UGMA 529.


Why Coverdells?

The investment options in a Coverdell are much broader than those in 529 plans as you can invest in any stock, mutual fund, or ETF that is available at the brokerage or financial institution where you open the account. Also, the minor can withdraw an unlimited amount from their Coverdell account each year to pay for private K-12 if they go that route.

On the downside, total annual contributions to the Coverdell cannot exceed $2,000 from all sources. Therefore, to maximize the benefits from the Coverdell, parents should set these up and begin to fund them when their children are very young. You would be surprised how much you can accumulate over 15+ years with annual $2,000 contributions plus the magic of tax-free compounding.

Those that fund Coverdells must also meet certain income limitations. The account owner’s modified adjusted gross income must be under $95,000 (single), but since (in this example) the minor will own the Coverdell and is the one making the contributions, this income limitation is rarely an issue. Also, while contributions to 529 plans can be made at any age, contributions cannot be made to the Coverdell account once the student reaches age 18.

The minor may choose to fund their own UTMA/UGMA 529 plan with the remainder of the annual gift proceeds. Minors living in states that allow a state tax deduction for their 529 contributions should consider contributing at least enough to their state’s 529 to offset the capital gain on their state returns. The balance of the funds could then be invested in a 529 plan that best meets the needs of the family.


How to pay for K-12 (and college)

Families can withdraw up to $10,000 tax-free each year from the 529 to pay for private K-12, and there are no annual Coverdell withdrawal limits. Since the 529 will likely have a larger balance (because more money is being invested annually), families should consider making annual withdrawals of up to $10,000 from the 529 first, then any additional amounts from the Coverdell. Keep in mind that some states will tax a portion of these 529 withdrawals.

When it comes to paying for college, families can withdraw funds from either account. You may want to favor withdrawals from the Coverdell first, as those funds must all be used or rolled over to another beneficiary or a 529 before the student turns 30.


The bottom line

By gifting appreciated securities to their minor children, parents — as well as the children — can avoid capital gains tax on the subsequent sale. The minor can funnel $2,000 each year from their UTMA account into a Coverdell and enjoy the access to many funds and investments that are not available through a 529. By funding their own UTMA/UGMA 529 with the balance of the proceeds, the minor can maximize the amount saved for college and may receive a state tax deduction that will offset the capital gain on the sale of the gifted stock.

If this process is repeated each year starting as soon as the student is born, the family may be able to pay for college without writing a check.

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