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Understanding the 2K College Savings Rule of Thumb
Once upon a time, Fidelity, an American multinational financial services corporation based in Boston, came along and invented the 2K Rule. But what is it? How does it work? How can you use it for college savings best practices as you plan for your kids' educational future? And where does life insurance come into play?
What is the 2k Rule?
The 2K Rule is a rule of thumb created for parents. It helps them calculate how much money they should save to help pay for their child’s college education. The goal is to save around $2,000 per year.
No matter when you start the 2K Rule, you should multiply your child’s age by $2,000 to see how much money you need to ensure there is enough to pay half of the cost for the average college education. From then on, continue putting $2,000 aside each year until your kid goes off to college.
For example, multiply $2,000 by 8 ($16,000) for an eight-year-old to get the sum for that particular age group. The answer isn’t the total you need to save to pay for college but the total needed to save to be on track at that specific age in their life.
Why the 2k Rule?
Financial firm Fidelity found that the average US family is on track to save only 29% of the total amount needed to pay for their child's education by the time their kids graduate from high school.
This happens because parents are struggling to understand how much they should save for their children’s college education. Alas, the 2K Rule was born, and moms and dads all over the country suddenly had a way to calculate the costs related to a college education.
How to use it
The goal is to put aside as much as possible, and the 2K Rule should be just one method to save for your child’s college. Saving under the 2K Rule won’t reduce your child’s access to merit-based grants and scholarships for grades, nor will it affect academic accomplishments and special skills. When used with the 2k Rule for saving, financial aid can account for a significant chunk of college costs. The more methods you use to help pay for college costs, the better the 2K Rule becomes for saving.
Using a 529 plan to implement it
The 2K Rule only works when you use it in conjunction with a 529 Plan, a state-sponsored scheme with tax advantages designed to increase your college savings. States offer different 529 Plans, so the type you opt for will ultimately depend on your location. A 529 comes with benefits, such as avoiding capital gains tax when used for qualified education expenses like tuition, fees, books, and other educational-related supplies.
You can also use the 529 for other aspects, though you’ll be taxed on anything not related to paying for your kid’s college. It works similar to a Roth IRA, except it’s designed for the purpose of education rather than retirement. While the 529 Plan can be beneficial working alongside the 2K Rule and helping to pay for your kid’s college, it does have some drawbacks.
Some 529 Plans may affect which college your child ends up at, as well as impacting their chance of receiving financial aid. If a 529 owner rolled over into another state’s plan, income tax deductions and credits claimed might be the subject of recapture by the state.
Are there any other options?
There are indeed other options when it comes to saving for your child’s college, such as life insurance. Most people think of life insurance as something that provides a death benefit to the loved ones of the policy owner. And while it is indeed that, a permanent life insurance policy is also so much more.
A permanent policy allows you to grow wealth while you’re still alive by tapping into the cash value you accumulate throughout the coverage. This changes the dynamic around life insurance and gives you a form of investment account where you can build for the future.
You pay into two pots: one for the death benefit and the other for the cash value. Both of these grow over time, and you can dip into the cash value later in life and use it for pretty much whatever you want including, you guessed it, your kid's college.
Life insurance for college planning (amongst other things)
Send your kids to college and enjoy the safety and security that comes with a permanent life insurance policy. It has fewer restrictions on distributions while offering families a place to keep funds from the federal financial aid methodology, which is the formula used by the federal government to determine your Expected Family Contributions.
Using a permanent life insurance policy is a smart way to save for your kid’s college, as you can utilize the cash value element to build wealth. You also have the bonus of leaving a death benefit to your beneficiaries, just in case the worst was to happen.
On top of that, the money you withdraw is tax-free as it’s taken out as a 0% loan to yourself. When you pass, the death benefit pays the amount borrowed, with the rest going to your loved ones.
Paying for your child’s college with permanent life insurance is more unconventional than going down the 529 route. But it also provides a bonafide way to save for the future and pay for your child’s college education in full.
In conclusion: College 2K
The 2K Rule is a handy way to understand how much you should save for your child's college fees. But it's not the only game in town, and using permanent life insurance coverage can help you save for their college as well as other things that may be important to you during retirement. Combined with a death benefit, a permanent policy is a smart way to fund your child's college education.