In Dave Ramsey’s book, The Total Money Makeover, Dave Ramsey made mention of a personal finance debt freedom plan that he titled Dave Ramsey’s baby steps. This is a system that outlines a pathway from indebtedness to financial freedom.
Dave Ramsey’s Baby Step 5 is a plan that’s poised to help people invest in the future of their kids in the most affordable way possible. This baby step is directed at helping people to save up for their kid’s college fund without running into debt.
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Why Dave Ramsey wants you to save for your children’s college fund?
On average, students spend $18,943 per year in an in-state public college and a mind-blowing $42,419 in a private university. Dave Ramsey noted that this figure is bound to leave students in much debt when they’re just starting their life. He believes that saving money is now much easier than before, as parents have a gamut of options at their disposal. Dave believes that saving for your children’s college fund gives you headway in the most unique way possible.
How Do You Start a College Fund?
Before you start saving, Dave Ramsey recommends that you first use his calculator to know how much you should save for college. After getting a perfect figure of what you should save, he recommends that you use any of these plans.
Education Savings Account:
The workings of an ESA or Education IRA are pretty similar to Roth IRA. The only difference here is that the money is going to be channelled for education purposes.
529 Plan:
If you don’t meet the income limit for applying for an ESA or you’ll like to save over $2,000 yearly for the education of your kids, then it’s better to opt for a 529 plan. However, Dave Ramsey warns that you shouldn’t opt for any type of 529 plan you’re offered as he noted that some 529 plans are detrimental to your financial goals. He particularly warned against going for a 529 plan that can freeze your options or alter your investment according to your child’s age. Dave Ramsey reiterated that users stay away from life or fixed plans. He believes that you should use one that’ll put you in control at all times.
UGMA or UTMA:
Once you’re done with the 529 or ESA plan, Dave recommended that you should consider the UGMA/UTMA plan.
Understanding a 529 Plan
To help you have an apt understanding of 529 Plan, Dave Ramsey gave an apt explanation of how a 529 Plan works.
Dave noted that a good majority of 529 plans are state-run, and some private colleges have prepaid plans. Every 529 plan has an account owner (usually the parent of intending student) and a beneficiary (student). The owner selects the beneficiary and controls the investment.
Dave explained that anyone who desires can contribute to the plan can do so, and it has no age or income limit for contributors.
As opposed to the common conception that this plan is solely for saving for your kid’s college, Dave explained that there are 529 plans that are tailored for K-12 private, public tuitions and apprenticeship programs.
Dave also noted that similarly to other retirement accounts, all contributions to this plan are tax-deferred. What this means is that the beneficiaries of this account won’t be required to pay tax.
Understanding Education IRAs or Education Savings Account
An Education Savings Account works pretty similarly to Roth IRA. This savings strategy gives you room to invest as much as $2,000 yearly, per child. Also, the growth is tax-free. A simple plan to save $2,000 annually from the time you give birth to your child till he/she is 18 will give a total sum of $36,000. ESA’s don’t have a fixed growth rate; however, using the average stock rate growth of about 12%, $36,000 will be $126,000 when it’s time for your child to reach school.
Dave Ramsey believes in the potency of ESA accounts as they give much better profit than the normal savings account. Also, beneficiaries won’t be required to pay tax on withdrawals.
However, this type of account is not just ideal for college tuition, beneficiaries can using it to purchase school materials and pay both vocation and private school tuition.
You can send over the money to an account of an ESA account of a sibling if your child no longer needs it.
Should you save for Your Children’s Entire College?
Except your income puts you in the upper echelon of society, chances are high that you won’t be able to completely clear your student’s college debt. If you want to pay your kid’s entire college tuition, you’re at liberty to do so, but the cost of doing that is very high.
In Summary
Dave Ramsey, a personal finance guru that is well known for curating apt solutions that can help to ease some common financial problem, and also help to guide us to our financial goals. Dave Ramsey has authored multiple books, some of which include The Total Money Makeover that buttresses the use of Dave Ramsey’s baby steps. His Baby Step 5 talks about making financial provisions for the college of your kids. This article touches on some questions you may have about Baby Step 5 and an explanation of some terms that can make you fulfil this baby step.