Education Savings: Our Unconventional Approach

My wife and I put a strong emphasis on the value of an education and want to give our children every opportunity we can.  As Catholics, we believe our first responsibility as parents is to teach our children about our faith, by creating a home environment suited for education and fostering Catholic values.  A Catholic education can provide an excellent academic education and, more importantly to us, it is a great extension of our teaching and example of faith and love at home.  We decided early in our marriage that we were going to make saving for a Catholic school education one of our highest priority savings goals. We have three main goals for our education savings, listed here by priority:

  1. Pay for a Catholic elementary school (K-8) education for each child.
  2. Pay for the equivalent of in-state college tuition and textbooks for each child.
  3. Pay for a Catholic high school education.

Monthly Savings Goal

Essentially, all models are wrong, but some are useful.
— George Box

When we set a savings goal, I first look towards online calculators, but often find they don't meet my needs for the specific questions I am asking.  I usually then turn to spreadsheets to build a model to estimate how much we need to save each month.  I use conservative input values rather than building more complex models.  This approach has two benefits.  First, my models are fairly simple to understand (at least for me) and second, this creates a situation where we are more likely to "over save" for our goals than not save enough.  For our education savings model, I assumed we would have three children and made some general assumptions about the model inputs (i.e. percent returns, inflation of the dollar, and education cost inflation).  If you are interested, you can pick apart my model, as I have it in a Google Spreadsheet. The below table shows the results of my model and all I can say is WOW! We have to save $900 a month (more than our mortgage) to pay for the full cost of college for three children.  This is in addition to separate savings for Catholic elementary school and high school costs.  

Model Summary: Education Savings

Strategy

We plan to start our education fund by adding $100 plus half our "slush fund" each month.  Our slush fund is basically just any extra money we save each month beyond what we budgeted.  Rather than tracking how much we spend each month, we do a reverse budget.  At the start of the month, we set aside specific amounts for each savings goal we have and any extra money that we have saved from the previous month is put into the slush fund.  Because we work hard to live below our means, our slush fund can be as high as four figures, but it varies a lot from month to month depending on our income and expense.  We tend to save the most at the end of the year when I get my bonus and less during the summer.  My wife is a teacher and does not have a regular paycheck during the summer months.  

Those with sharp eyes will notice that we are not putting away nearly enough to pay for elementary school.  Here are the reasons: First, the model assumes three children and we only have one right now.  Also, for the next few years, we are prioritizing most of our savings to pay off our mortgage early.  We are fortunate enough that we can live well below our means and have enough income each month to pay for elementary school for one or two children using our regular monthly income (i.e cash-flow), without the need to save ahead of time.  We also hope that eliminating our mortgage before our children are school-aged will free up considerable funds each month, either to set aside as college savings or to cash-flow further Catholic school tuition costs.  However, we are still a young family and we have a lot of uncertainty about our long term finances.  So we have started saving now to ensure that paying for Catholic education does not strain our future finances.  My wife and I also have a finances talk on a monthly basis where we re-evaluate our strategy, review spending, and discuss whether any modifications may be needed to keep all of our savings goals on track.

Account Types

The two main types of accounts that are traditionally used for education savings are 529 plans and Coverdell accounts.  Both accounts act similar to Roth accounts, where money that goes into the account is taxed as normal income, but growth and withdrawals are tax-free (if used for qualifying education expenses).  Our state and several other states also exempt state income tax if savings are invested in a 529 plan run by your state of residence. 

Originally, Coverdell accounts were also just college savings plans, but with the 2010 "fiscal cliff" deal Congress set the contribution limit to $2,000 (not to increase with inflation) and "permanently" allowed K-12 expenses to be considered as qualifying expenses.  Worst case: If these rules change and K-12 expenses no longer qualify, money saved in a Coverdell account can still be used for college.  The money in both a 529 plan and Coverdell account are also transferable to another dependent if the need arises (Coverdell transfer must be done before the original child turns 18).  

Each year, we plan to first max out a Coverdell account ($2,000/yr).  For any money saved beyond what can be put in the Coverdell account, we plan to invest in a taxable brokerage account at Vanguard.  We chose a taxable account over a 529 plan since a 529 plan cannot be used to save for Catholic school education as only college is considered a qualifying expense.  A taxable account gives us a lot more flexibility to use the funds as we need in the future, including in ways that would not be qualifying expenses for a 529 plan.  For example, depending on the number of children we have and where they go to college, we could reduce college housing costs by buying rental property that each child would use.  Or, if the market is down, we could cash-flow some of the college expenses and move the taxable funds into a retirement account.  With a little work in a taxable account (tax loss harvesting and strategic donations), we can also exceed the tax advantages of a 529 plan. 

Ideal Plan

Ideally, we plan to cash-flow elementary school and use our Coverdell account savings plus some cash-flow to pay for a Catholic high school. The bulk of our education savings (in the taxable account) would then be available to help with the equivalent of in-state tuition for college. 

Worst Case Plan

The best laid schemes of mice and men
Go often askew
— Robert Burns

Since things don't always go according to plan, our "worst case scenario" is to use all our education funds (i.e. Coverdell and taxable account) plus some cash-flow to pay for Catholic elementary school.  The public high school we are zoned to is a good school and we don't have any issues sending our children there if paying for further Catholic education is impossible.  Although we would love to help our children with college expenses, student loans are the new normal for most people and three quarters of a million dollars is a lot to save for any family.

Summary

The first step to meeting a goal is to make sure you have a plan.  Having a plan and sticking to it has helped us already save for things well beyond what I thought we could save when I started.  I am glad we have started as soon as we did with our education savings plan given how big of a commitment it is.  The future is uncertain, but likely we will end up somewhere between our ideal and worst case plans, which is much better than most people have the ability to do for their children.