Prepaid Tuition Scenario

Prepaid tuition may sound like a sweet deal, but there is more than one thing wrong with it.

QUESTION: Scott and his wife are on Baby Step 5 and have 2 kids who are 13 and 4 years old. His state of Texas has a prepaid college tuition program, and he wonders if he should take advantage of that. Dave advises against it.

ANSWER: I avoid prepaid tuition because your rate of return is the inflation rate on that item. If you prepay $40,000 and the college tuition when you use it is $80,000, you made $40,000 on your return. Generally, the rate of return on prepaid tuition is about 7%. You can invest in a good growth-stock mutual fund where you have at least 5 years to invest. The first $2,000 per year should go to the educational savings account, and I like them because you have control and flexibility with it. If you don’t like where the money is, you can move it. The 529 plans are all over the map. Some of them give you control and some of them don’t.

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