Planning Ahead: College Savings Options and Tax-Advantaged Strategies


With graduation season in full swing, many are reminded of the soaring costs of higher education. According to a U.S. News & World Report Study, average tuition and fees at public four-year institutions have more than doubled over the past two decades. Private nonprofit colleges continue to outpace public schools in cost, making strategic planning around college funding more important than ever.

If your retirement savings are secure and you are considering leaving a financial legacy for your family, contributing to a loved one’s college expenses can ease their financial burden while also providing estate and tax planning benefits. Here we explore several savings options, tax-efficient gifting strategies, and alternative tools like municipal bonds and Roth IRAs that can help support education costs.

 529 College Savings Plans

529 plans are among the most popular and flexible tools for college savings. These state-sponsored accounts allow for tax-free growth and withdrawals when used for qualified education expenses, including tuition, books, and room and board. A key advantage is their flexibility: they can be used for college, vocational schools, and up to $10,000 annually for K–12 education.

Pros:

  • Tax-free growth and withdrawals for qualified expenses
  • Low impact on the Free Application for Federal Student Aid (FAFSA) when not parent-owned
  • Eligible for “superfunding” contributions up to $95,000 per person ($190,000 for couples) over five years (for 2025)

Cons:

  • Penalties and taxes apply to non-qualified withdrawals
  • Limited investment options depending on the state
  • CSS Profile schools may count non-parent-owned plans in aid calculations. The CSS profile is an online application used by colleges and scholarship programs to award non-federal institutional aid. Roughly 250 mostly private colleges use the CSS profile to award their institutional aid.

Recent legislation has further expanded 529 plan flexibility. If a beneficiary does not use all the funds, e.g., due to scholarships or choosing a more affordable school, up to $35,000 can now be rolled over to their Roth IRA, provided the account has been open for at least 15 years and the beneficiary has earned income.

 Gifting for Education

Beyond 529 plans, direct gifting offers another pathway for supporting college costs while reducing your taxable estate.

In 2025, individuals can gift up to $19,000 per person annually without incurring federal gift tax ($38,000 for married couples). These gifts are excluded from your lifetime gift and estate tax exemption. More significantly, tuition payments made directly to a college or university are not considered gifts at all, no matter the amount. This “tuition exclusion” allows you to pay substantial sums without impacting your gift tax limits.

Pros:

  • Reduces your taxable estate
  • No gift tax on direct tuition payments
  • Gifts do not need to be reported if within the annual limit

Cons:

  • Payments for non-tuition expenses (e.g., books, housing) do not qualify for the tuition exclusion
  • Gifts reduce the amount a student may be eligible to receive in need-based aid

 Municipal Bonds: A Conservative Option

Municipal bonds, debt securities issued by state and local governments, are another strategy for college savings, particularly for those seeking low-risk, tax-efficient income. Here, a person would (1) set up an account with some or all of the full cost of four years of tuition in cash, (2) purchase four in-state municipal bonds with par value covering all or part of the expected tuition payment for each year of college, and (3) match the maturity to spring of each of the four years starting when the student is expected to graduate high school. The income from the bonds would be reinvested, or swept, into a municipal money market vehicle throughout the holding period. Provided the bonds are held to maturity, the return is locked in at the yield to maturity at the time of the initial investment and all of the return is exempt from federal and state income tax. So, for example, if a family started with $200,000 +/- in cash, each spring the family would have $50,000 in proceeds from the maturity of that year’s municipal bond, plus all or a part of the income generated and held in the money market account along the way, to be spent on that year’s tuition. While municipal bonds do not offer the same targeted tax benefits as 529 plans, they provide predictable tax-free return that can be used toward education or other expenses.

Pros:

  • Predictable Return
  • Tax-free interest income
  • Low risk for high-credit municipalities
  • Flexible use of funds

Cons:

  • Returns may be lower than equity-based investments
  • No specific education-related tax benefits
  • Bonds may lose value if sold before maturity in a rising interest rate environment

 Roth IRAs for Minors

If a child or teen has earned income from a job, consider opening a custodial Roth IRA on their behalf. While primarily a retirement tool, Roth IRAs offer long-term growth potential and flexible withdrawal options.

In 2025, contributions can be made up to the lesser of the child’s earned income or $7,000. Although designed for retirement, contributions (not earnings) can be withdrawn at any time tax and penalty-free. Withdrawals for qualified education expenses are also exempt from the 10% early withdrawal penalty, although income taxes may apply to earnings.

Pros:

  • Tax-free growth
  • Early withdrawals for education allowed (penalty-free)
  • Builds both college and retirement savings habits

Cons:

  • Must have earned income
  • Contribution limits are low compared to college costs
  • Withdrawals may affect financial aid eligibility

 Final Thoughts

Helping a loved one save for college can have far-reaching benefits, but it requires careful planning. Whether you use a 529 plan, direct gifts, municipal bonds, or Roth IRAs, be sure to align your giving with your broader financial goals. Communicating openly with your family and consulting a financial advisor will help ensure your contributions support both education and legacy objectives without compromising your own financial security.

For more guidance or personalized advice, please reach out to your Relationship Manager or visit a trusted resource like Mefa.org.

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