3 Things You Should Know About… GIVING THE GIFT OF EDUCATION (part 1)

Taking the Fear out of Finance with Laura Redfern, CFP®:

On the first day of Christmas, my grandma gave to me… a contribution to a 529 college savings plan!

OK, that’s probably not the version that you enjoyed singing as a child, but it could be a great gift idea, depending on what you are trying to accomplish.

As ygift_guyou begin holiday shopping in earnest, you may be wishing there were other, more meaningful alternatives to the usual goodies we give to children. Perhaps you’d prefer giving loved ones a financial “leg up” toward building their future. And the knowledge that you’re saving money for the betterment of a child would make even Scrooge smile.

But once you start to explore the land of the sugarplum savings options, the choices can quickly become overwhelming, even souring! Are savings bonds still a good gift? How does a 529 college savings plan work? What’s the deal with prepaid tuition? What in the world is a UGMA?? Help!

College savings strategies can be complex, and should be customized to what you are trying to accomplish. I hear a lot of questions about making educational gifts at this time of year, so I’m breaking up my “3 Things You Should Know About…” blog into 3 parts to address the 3 Most Common Savings Gifts. Today, Part 1 addresses government savings bonds. On Friday, Part 2 will demystify 529 plans. On Monday, Part 3 will explore UGMA accounts, and I’ll conclude with the Top 3 Questions YOU should be asking when considering this type of financial gift.

Part I: Government Savings Bonds

Series I or EE Bonds, often called “Educational Savings Bonds,” are purchased for a specified amount. They earn interest on that amount over time. A recipient (other than you) can be named, who can cash it in later. If used to finance education, interest on the earnings may be excluded from Federal Income Tax, if both the bond owner and the nature of the redemption qualify.

Biggest benefit: low riskmoney_pig
Bonds purchased after May 2005 earn a fixed rate of return (so your return is not dependent upon what’s going on in the economy or stock market). The downside? The current interest rate, according to treasurydirect.gov, is 0.1%. Although experts don’t agree on the exact inflation rate for college tuition, they do tend to agree that it is significantly higher than the current rate of inflation, and that is significantly higher than 0.1%.

Biggest complaint: difficult to purchase and give
In addition to currently earning a very poor interest rate, savings bonds aren’t as easy to give as they used to be. To gift an electronic savings bond, you must know the recipient’s full legal name, Social Security Number, and their TreasuryDirect account number. That’s right, they need to have already set up an account at TreasuryDirect. Then, when you buy savings bonds as gifts, you must hold them in your TreasuryDirect account for at least five business days before you can deliver them to the gift recipient. Finally, when the bond is delivered to the recipient’s TreasuryDirect account, he or she will get an e-mail announcing your gift. Not quite the warm fuzzy you may have intended?

Other Interesting facts:
-Not your grandmother’s bond: As of January 1, 2012, paper savings bonds are no longer sold at financial institutions. Also, the new electronic bonds are purchased at face value, not at a discount. In other words, you pay $25 for a $25 bond these days. Grandma probably paid $25 for a $50 bond in the past.

-Intended to be long term investments: If the bond is redeemed anytime in the first 5 years, an early redemption penalty applies. EE Bonds earn interest for 30 years, so if you held a $100 savings bond (purchased today in 2013) for the maximum amount of interest-earning time, your investment would be worth $103 in the year 2043.

SOURCE: http://treasurydirect.gov/indiv/products/prod_eebonds_glance.htm

Stay tuned for the next post: Demystifying the Different Flavors of 529’s!