With higher education costs increasing at double digit percentages an effective college savings plan for your kid's education is becoming much more critical. Most parents will find that their kid's future college costs will be much more than they have planned. This leaves many kids to be faced with obtaining financial aid to compensate for a portion of their higher education costs. This article will explore the pros and cons of 4 common college savings options. This article will also seek to show which of these 4 options are a better option if part of your kid's higher education costs are to be funded by financial aid.

529 College Savings Plan: Since January 2002, 529 college savings plan have become a new option for achieving tax free college savings. These plans are state sponsored investment programs that offer special tax treatment. It allows just about everyone to save for their kid's college education. While there are many benefits of a 529 college savings plan, perhaps the most important is that your investment earnings are tax deferred if you use the funds for qualified education expenses. Additionally, another big advantage is that the maximum amount you can contribute to a 529 savings plan can go as high as hundreds of thousand dollars but be aware these are based on your States specific guidelines. If for some reason you do not use the investment funds for college, you can still withdrawal your investment earnings, but you will have to pay a federal penalty of 10% and federal income taxes on your earnings. The penalty can be waived if your child receives a college scholarship, or in the event your child becomes disable or dies.

A 529 plan can typically be easily purchased through an investment broker or mutual fund company like Vanguard or Fidelity. Please be aware that one of the biggest disadvantages of a 529 plan is that investment options can sometimes be limited. However, as 529 plans become more popular it is likely that more plan options will open. For instance, the State of Ohio just announced the option for bank CDs and saving accounts for 529 plans. One last main advantage of a 529 college savings plan is that the money in the plan is classified as a parents assets so less that 6% of the value counts against your kid's eligibility for financial aid.

Coverdell Education Savings Account (CESA) (formerly known as an Educational IRA): A Coverdell Education Savings Account is a savings account created as an incentive to help parents and students save for higher education expenses. A Coverdell Education Savings Account is easy to set up at most financial institutions and banks. A Coverdell Education Savings Account is similar to a 529 college savings plan, but different in the contribution limits. With a Coverdell Education Savings Account you can only contribute $2000 per child per year and to qualify your adjusted gross income must be less than $110,000 if you are single and less than $220,000 if you are married filing jointly. For financial aid eligibility a Coverdell Education Savings Account is classified as a parent's asset so less that 6% of the value counts against your kid's financial aid eligibility.

UGMA/UTA Custodial Account (Uniform Gifts to Minors Act/Uniform Transfers to Minors Act): A UGMA/UTMA account allows someone to make gifts to a minor without setting up a trust. While there are benefits to a UGMA/UTMA account the first limitation is that these types of accounts offer very little federal tax advantage. Secondly if your child is 14 or under only the first $800 of income is tax free, the next $800 is taxed at your child's tax rate and after that there is no tax benefit at all. The other big disadvantage is that an UGMA/UTA Custodial Account has to be set up in your child's name. This can create a big problem if your child needs financial aid since all of the assets will be reviewed at a 35% rate. As a result, a UGMA/UTA Custodial Account is not advisable for those who may need to qualify for financial aid eligibility.

The main advantage of a UGMA/UTA Custodial Account is that there is no limit on the investment contribution and it is very easy to set up at most major financial institutions including some insurance companies. However, as can be seen above the disadvantages of a UGMA/UTA Custodial Account far outweigh the benefits.

Taxable Investment Accounts: Taxable investment accounts can be a broker account, a mutual fund, a certificate of deposit or just a regular savings account. Essentially it is just a regular account that earns taxable interest, or investment income. A benefit of a taxable investment account if set up in the parents name is that the assets are classified as a parent's asset so they do not count as a negative in the financial aid formula. Additionally, taxable investment accounts offer lots of flexibility, and are easy to set up at any financial institution. However, the big limitation to taxable accounts in saving for college is that they offer no tax advantage for college savings.

In summary, a solid savings plan for college is a very important undertaking for parents to consider. The above 4 education investment options can be highly useful in the college planning process. Furthermore since some of these investments offer substantial federal tax advantages and do not count against financial aid eligibility they can maximize parent's investment resources.

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