- College costs are significant—and planning early matters. Private universities can exceed $100,000 per year, while public options may surpass $35,000, making a strategic savings and funding approach essential.
- Choosing the right savings vehicle is critical. 529 plans offer tax-free growth for qualified education expenses, UTMA accounts provide flexibility but shift control to the child by age 21, and irrevocable trusts offer the most flexibility for wealthy families but may have higher income tax costs.
- Financial aid outcomes are driven by income, assets, and account ownership. Parent-owned 529 plans are treated favorably, while student-owned assets (like UTMA accounts) can significantly reduce aid eligibility; methodologies vary depending on whether schools utilize just the FAFSA or also incorporate the CSS Profile.
- Recent legislation has expanded flexibility—but added complexity. Changes include broader qualified 529 expenses, Roth IRA rollovers from unused 529 funds, new child savings accounts beginning in 2026, and revised federal student loan limits and repayment options.
- A coordinated strategy across savings, gifting, and financial aid planning is key. Families should balance education funding with retirement priorities, understand aid formulas, and carefully structure assets to optimize both tax efficiency and financial aid outcomes.
Paying for college can be daunting. Tuition, room, board, and mandatory fees at top four-year private universities are north of $100,000 per year. Even in-state costs at public universities can exceed $35,000 per year. None of these costs include travel and incidental expenses. Needless to say, a college education is an investment. But what are the best ways to pay for college? What should be done to save for college? How do accumulated savings affect potential financial aid awards?
What types of accounts are best for saving for college?
Although this is not an exhaustive list, popular vehicles used to save for college expenses include Uniform Transfers to Minors Act (“UTMA”) accounts, 529 Plans, and irrevocable trusts. Beginning in July 2026, Child Savings “Trump” Accounts will also be an option. All are funded with irrevocable gifts, including annual exclusion gifts, but each has its own benefits and limitations.
UTMA Accounts
An UTMA account is easy to establish, can be invested however the adult custodian determines, and can be used for almost anything that benefits the child other than traditional support obligations. The flexibility and simplicity of UTMA accounts make them attractive. Their significant limitation is that children gain control of any assets remaining in the account when they reach a given age. In most states, this occurs at age 21, although it can be as young as 18.
It is easy to see how an UTMA account could be funded with $100,000 or more by the time a child reaches age 21, and although some adults may not consider this a lot of money, it can certainly sound like it to a child who may have only had summer jobs up to that point. In addition, under the Kiddie Tax, the earnings beyond a small threshold from a child’s UTMA account are taxed at the parents’ marginal federal tax rate.
Another potentially significant concern with UTMA accounts is that they are considered the child’s assets for financial aid calculation purposes, which means they will have a larger impact on the Student Aid Index (“SAI”) which is a calculation of how much a family should be capable of paying for a particular college student.
Section 529 Plans
Section 529 Plans, also referred to as Qualified Tuition Plans, were established by Congress in 1996 under IRS code section 529. The most attractive feature of 529 Plans is tax-free growth, which is available as long as the assets are used for qualified education expenses. Qualified education expenses include tuition, room, board, fees, books, and even some technology-related expenses for the named beneficiaries while they are enrolled at an eligible educational institution on at least a half-time basis. Eligible education institutions include colleges, universities, vocational schools, and other postsecondary educational institutions that are eligible to participate in U.S. Department of Education student aid programs. Graduate schools and even some institutions located outside of the U.S. can also qualify. Certain other expenses may also be paid from 529 Plans, as noted below.
529 Plan Types and Limits:
There are two types of 529 Plans. The most common is the college savings plan but in almost all cases a 529 Plan allows the funds to be used at any qualified postsecondary educational institution. A less common type is the prepaid tuition plan, which can require that the funds be used at a limited number of qualified post-secondary educational institutions. It is important to understand the type of plan being funded and any limitations it may have.
Different plans have different limits beyond which additional funding is not allowed, with current maximums for some plans over $600,000. Amounts not needed for a beneficiary’s education can be transferred to a 529 Plan for certain other relatives or their spouses, including, but not limited to, siblings, nieces, and nephews, without any negative tax consequences. First cousins are also eligible beneficiaries. If the assets are withdrawn and used for something other than qualified education expenses, the earnings will be subject to income tax and may be subject to a 10% penalty.
Income and Gift Tax Advantages:
Assets inside the 529 Plan grow tax free as long as they are eventually used for qualified purposes. Although the 529 Plan donor does not receive a federal income tax deduction for funding the plan, they may benefit from a state income tax deduction. In fact, the donor can elect to make an upfront gift of up to five years of annual exclusion gifts to a 529 Plan. In 2026 this translates into a current gift of up to $95,000 per donor (or $190,000 if gift-splitting is elected by a married couple) for each beneficiary. The ability to make additional annual exclusion gifts will be unavailable or severely limited during the five-year period, and there are estate inclusion consequences if the donor dies during the five-year period as well.
Beneficiaries:
There is no requirement that the beneficiary be a relative, and in fact donors can even establish a 529 plan for themselves. The account owner is often the person making the gift to the 529 Plan, but a person can make a gift to a 529 Plan that someone else has established for a given beneficiary. The person who establishes the plan is considered the owner and therefore makes the investment and distribution decisions relating to the plan’s assets.
Financial Aid Impact:
For financial aid purposes, a 529 Plan with a parent owner is counted as a parental asset, and therefore under the Free Application for Federal Student Aid (“FAFSA”) system is counted as a 5.64% asset and plan distributions are not counted as income. Another approach is to have the plan owned by a grandparent, which is then excluded from the asset test calculations and any distributions are no longer treated as income for FAFSA purposes. This makes grandparent ownership slightly more favorable for FAFSA purposes than parental ownership. However, the FAFSA change does not help at every school. Many private colleges use the College Scholarship Service (“CSS”) Profile, administered by the College Board, to award their own institutional aid. The CSS Profile asks families to list all 529 accounts where the student is a beneficiary, including those owned by grandparents. Individual school’s policies vary on how they treat non-parental 529 plans.
Selecting a 529 Plan:
Two of the key questions to ask when selecting a 529 Plan include which state’s plan should be utilized and who should be the account owner. All states have one or more versions of a 529 Plan, and it is not necessary to utilize your state’s 529 Plan, although you may wish to if your state provides tax benefits to their residents related to their 529 Plan funding. Beyond that, a donor should look at both the investment choices that are available for a given 529 Plan as well as the investment and other management fees that are charged by the plan administrator. Investment choices and fees vary widely. Some plans invest the assets solely based on a beneficiary’s age, while others provide investment choices within a range of asset classes. No plan can allow complete discretion in investment choices. Before finalizing a choice, it is advisable to review the terms and limitations the particular plan has, including the ability to change beneficiaries or roll the assets into another 529 Plan, and any limits on the age of plan beneficiaries or how many years they are eligible to receive distributions from the plan.
Eligible Expenses:
One of the key drawbacks of 529 Plans is that in order to maximize the income tax benefits and avoid any potential penalties, their use is generally limited to qualified education expenses. Beginning with the SECURE Act of 2019, up to a lifetime maximum of $10,000 can be used to repay student loans.
Legislation in 2025 expanded the definition of qualified expenditures allowing up to $20,000 per year to be used for private elementary and secondary school education, which now can include not just tuition but also books, tutoring, certain expenses, dual enrollment costs, and certain education therapies for students with disabilities. Also expanded were the types of post-secondary education training and education program expenses that are considered qualified education expenses.
The SECURE 2.0 Act of 2022 created the ability to use excess plan assets to fund Roth IRAs established by the 529 Plan beneficiary. Annual funding limits, including the requirement for employment income, remain, but over time up to $35,000 of 529 Plan assets can be transferred to a Roth IRA tax- and penalty-free as long as the 529 Plan was maintained for the beneficiary for at least 15 years and transfers to the Roth are from assets added to the 529 plan at least 5 years before the Roth IRA funding. This is allowed even if the beneficiary’s income exceeds the normal Roth maximum income eligibility rules. Still, it is advisable not to overfund 529 Plans. In fact, if the goal is to maintain spending flexibility, an irrevocable trust may be a better vehicle choice.
Irrevocable Trusts
When a family has significant wealth, an irrevocable trust is a better savings and wealth transfer vehicle than either a 529 Plan or an UTMA account. Irrevocable trusts are even more powerful when a family member has the resources to make both annual exclusion gifts to the trust while also paying tuition costs directly to the education institution since such direct payments do not count towards the annual exclusion gift limit. In 2026, the annual exclusion gift limit is $19,000 per donor to each donee, with amounts beyond this requiring a gift tax return to be filed.
Irrevocable trusts can be drafted with flexibility to benefit one or more beneficiaries, with distributions being allowed for almost any purpose and not limited to higher education expenses. There are no maximum funding amounts with irrevocable trusts, and investment choices are completely flexible.
One drawback is that income inside the trust is taxable, often at a high rate. Therefore, it may be best to invest for capital appreciation in order to minimize the tax impact. If a family has enough wealth that tuition can be paid directly by parents or grandparents, then the flexibility of the irrevocable trust becomes even more attractive because the trust funds can be used for other life goals. The irrevocable trust can continue to be funded with annual exclusion gifts while tuition can, in addition, be paid directly to the educational institution by the parent or grandparent because it does not count as a gift for annual exclusion gift purposes.
Child Savings Trump Accounts
Legislation in 2025 established tax-advantaged savings accounts for U.S. citizen minors, with initial contributions beginning in July 2026. These accounts must be established before the year a child turns 18, and withdrawals are not allowed until the year the child turns 18. These can be funded with up to $5,000 per year, which will be indexed for inflation beginning in 2028. These gifts do not appear to qualify as a present interest for annual exclusion gift purposes. As a result, the donor would be required to file a federal gift tax return and utilize a portion of their lifetime gift tax exclusion, or pay gift tax if their lifetime exclusion has been used. As of 2026, the lifetime gift tax exclusion is $15 million per individual donor.
Investment criteria include that assets are to be invested in US stock index funds with expense ratios of no more than 0.1%, and withdrawals will be taxed as long-term capital gains when used for a qualified purpose. For children born during 2025 through 2028, the government will provide $1,000 of funding for each child. Beginning in 2027, an employer can set up a plan to contribute up to an additional $2,500 to an employee’s or to an employee’s dependent’s account.
Other than receiving a $1,000 contribution from the federal government for children born in 2025 through 2028, and possibly employer sourced funding, the other vehicles discussed above generally provide more favorable features for college savings.
What types of financial aid are available for college?
When there is a gap between savings and the cost of a college education, it may be time to explore available financial aid. Financial aid from colleges and universities can be broken down into two broad categories: merit-based and needs-based. Outside scholarships and loans may or may not be included in either of these categories.
Merit Aid
Merit aid is money given because of some attribute that the college or university recognizes in the student – such as academic, athletic, musical, or artistic ability. Many schools will give merit aid regardless of calculated financial need but may still require a family to fill out financial aid forms to be eligible. Merit aid does not need to be paid back and may or may not be renewable.
Needs-Based Aid
Most financial aid granted is needs-based, with the majority of institutions relying on the completion of the FAFSA to begin the process. In fact, in its pure form the FAFSA is known as the “federal methodology” and schools use this method to allocate federal aid. Schools can, by their choice, allocate their own financial aid under their own “institutional methodology,” with about 300 schools utilizing the CSS Profile and another two dozen using what is known as the Consensus to determine need.
Many schools will also have their own forms and questions that help them tailor the amount of the SAI. It is important to understand what a particular school’s process is because different family circumstances may result in significantly different amounts of aid under the varying approaches.
Student Aid Index:
Although this discussion will focus on the FAFSA, the intent of any of these methods is to determine the SAI, which is the maximum amount a family should be expected to contribute to an individual student’s education costs in a given year. Due to FAFSA changes, the SAI is calculated for each child and not for the family as a whole. Elite schools publicize that they will meet 100% of the amount beyond the SAI, while schools with lesser endowments may not be able to do so. This can translate into a family being asked to contribute more than indicated by the SAI.
Understanding the Net Price:
In addition, some schools rely more heavily on loans than “free” aid to meet the amount beyond the SAI. It is important to review any financial aid award letters and understand the details to have a better idea of the real cost of the school. It is also important to understand how a particular school treats outside scholarships, because some schools actually use them to reduce the school’s aid package. Even before applying, a family can utilize the “net price calculator” that each institution is required to have on their website to get an idea of how the school approaches the financial aid calculation. Sometimes the best way to locate these seemingly hidden calculators is by searching for “net price calculator” within the school’s website.
The Roles of Income and Assets:
Generally speaking, the calculation looks at a family’s income and assets and tries to determine what the family should be able to contribute to the cost of education. What the school determines to be reasonable and what a family views as reasonable may vary widely. Within the calculation, there is a modest amount set aside from income for relatively minimal living expenses and then a small asset safe harbor. In addition, amounts in retirement accounts are disregarded. Since income taxes paid are deducted from income, by choosing to fund a Roth 401(k) account instead of a standard 401(k), a family may pay more current income taxes while ultimately increasing their financial aid award.
After allowances, on the income side, FAFSA schools will expect a family to contribute up to 47% of the parents’ income and up to 50% of the student’s income. The SAI calculation will include a lower amount of family assets, with parents’ assets requiring a maximum 5.64% annual contribution and the student’s assets a 20% contribution. The FAFSA excludes the value of the family home, family farm, and 529 Plans not controlled by the parent or student from available assets.
The FAFSA now focuses on the income of the parent providing the most support for a student. Previously the FAFSA focused on custodial parent income, which potentially provided a benefit when the lower income parent had custody. For CSS Profile schools, home equity and other assets may be considered. Regardless of whether a family is required to complete the FAFSA or CSS Profile, form questions should be reviewed carefully to determine the proper disclosures.
The Roles of Trusts and Gifts:
An irrevocable trust or its distributions may be included in either the asset or income calculation depending on the terms of the trust and the circumstances. Gifts received by parents or the students generally also require disclosure. All of this taken together makes it apparent that parents should fund their retirement before they save for college and should be careful about putting too much money in a child’s name if they plan to apply for financial aid.
What are the recent changes to the federal student loan program?
If your college financing involves student loans, it is likely it will include some level of federal student loans. The federal student loan program was impacted by the 2025 legislation.
Beginning on July 1, 2026, parents will be limited to federal borrowings of $20,000 per year, per student, with a maximum of $65,000 per student. Graduate students will be limited to $20,500 per year and $100,000 total, while students in professional schools (such as medicine or law) will be limited to $50,000 per year and $200,000 total. With all programs combined, a student’s maximum borrowing will be $257,500. This maximum does not include any Direct PLUS loans or parental borrowing. These limits apply to new borrowers only and not students who had loans before July 1, 2026, who will have a maximum of three more years of borrowing under the pre-existing rules.
Going forward, student loan repayment plans will also be more limited effective with loans made in mid-2026, with either an income-based Repayment Assistance Plan (RAP) (30 years, up to 10% of AGI) or a standard repayment plan between 5 and 25 years, with the duration depending on the level of borrowing. Also, borrowers currently making payments may continue using their current income-based repayment plan. In addition, the
Public Service Loan Forgiveness (PSLF) program is still available. Also an employer’s ability to make payments of up to $5,250 per year on behalf of an employee for their education loans. This is similar to the employer’s ability to provide up to $5,250 per year in educational assistance. This amount will be indexed for inflation beginning in 2027.
The Bottom Line
The bottom line is that a college education is a significant financial commitment. Who will ultimately pay for the education, and whether any meaningful form of financial aid will be available, will vary greatly depending on the family’s circumstances. As with so many things in life, the best course of action is to understand the dynamics and plan ahead.
