Balancing kids' college and retirement saving

By Ginger Applegarth

It's the double-whammy of parenthood. You need almost $700,000 saved up if you want to retire today on a modest yearly income of $40,000. Meanwhile, the nation's most exclusive colleges cost more than $30,000 a year and you don't want to deprive your kids of the opportunity to attend.

Little wonder then that the two most frequently asked questions of financial planners are:

• Which goal is more important?

• How can I possibly save for both?

Somehow, parents of today with already grown children managed to accomplish this dual feat for the most part. You've probably compared yourself to them and thought, "How come I can't do it too?" It's hard enough to accomplish one goal, much less two.

The real answers may make you feel better to know that you're not doing something fundamentally wrong that your parents did right. (It also gives you ammunition if they criticize you about your money management.)

Your own parents' advantages

First, Americans enjoyed an unprecedented period of prosperity starting in the early 1950s to the early 1970s, when "real income" (purchasing power) increased dramatically.

Second, substantial percentages of employees had pension plans entirely funded by the company in which they paid nothing in but receive monthly income for life. Third, in real dollars, college costs have increased greatly so that the bills for our kids' education will be much higher than ours.

Fourth, parents often began families earlier in life, which meant they got college payments out of the way earlier and thus had more time to save for retirement. And fifth, in general they retired later in life than many of us would like. If you want to retire at 55 and your children will not be out of college until you're 50, you don't have much time to build that retirement nest egg.

But enough about the past. What about the present and the future? Let's look at that first question -- "What is more important, college or retirement?"

This is a relatively simple but painful answer to many parents. Your retirement is more important. Many parents have an understandably romantic notion and say that college comes first; that they are willing to sacrifice and have a lower standard of living at retirement in order to give their children that high-priced four-year private school education.

Ivy League schools or retirement?

You may have daydreamed about an Ivy League name printed above your child's college diploma, but stop for a minute and daydream about your retirement if you don't have enough money. Just as your finances and your children's finances are connected for college, they are for retirement as well. Assume for a moment that you have spent most of your money for college. Then, a few years into retirement, what happens? You run out of savings. You cannot make ends meet on Social Security and on whatever retirement plans you have. What are your alternatives?

You can live in poverty or turn to your children for help. Many adults in their 40s and 50s are finding themselves trying to raise their children and provide some financial support to their parents at the same time.

They often say that those expensive high-priced college diplomas hanging on the wall were not worth it, and that they would have preferred to go to a less-expensive school so that their parents would have more money now. Back generations feel guilty and resentful, and this problem is only going to get worse in the future.

Staying strong

The best thing to do for your family is for you to stay financially strong, so your retirement comes first. It may feel selfish to put yourself first, but that's the best strategy for your family overall.

The second most frequently asked question is "How can I do both -- college and retirement?" There are a number of things you can do both from your children's perspective and from yours. First, at your children's level, make it clear early on that your children are going to have to pay for part of their college expenses themselves.

Explain that you need to plan for your own retirement so that you do not become a burden on them when you get older. If your children are younger, explain to them that from now on their paper routes and other income needs to be partially allocated to a college fund. (A real bonus here is that you're teaching them great savings habits.)

Getting kids involved

Many planners recommend that children set aside 25% of their earnings for college, but you know what's best in your own situation. Set up a bank account specifically for this purpose. Many parents report an added benefit: Since their children are actively involved in the college-financing process, their grades start to improve and they take school more seriously, even at the elementary level.

Enlist your relatives and close friends -- anyone who regularly gives them gifts -- in this effort as well. Ask them to spend whatever they like on birthdays, Christmas, or special events like Confirmations or Bar Mitzvahs. But ask them to use only half of the money they plan to spend on a gift; you'd like the rest in the form of a check to be deposited into their college accounts. Then show the account statements to your children on a regular basis so they'll know how much money they have for school and how it's growing.

When your children reach high school age, tell them that you expect them to have jobs in the summer and to contribute half of that amount to the college account. Finally, tell your children that they will be expected to take out college loans. It's not uncommon for recent college graduates to have student loans of $15,000 or more. Time has proven that this isn't an undue hardship for college graduates, whose incomes rise sharply during their first several years after graduation.

Opt for tax-deductible plans

If you're not financially capable of handling dual retirement and college accounts, put every dollar you can into tax-deductible retirement plans. This strategy has multiple benefits. First, the contribution is tax deductible so the earnings are tax-deferred. If you invest even reasonably well, you're better off after eight or so years even if you have to take some of the funds out and pay the 10% penalty for early withdrawal. (Remember that you can now withdraw those funds for your child's college education penalty-free.)

Two added benefits to putting your savings into retirement plans are that you are less likely to spend the money and that financial aid calculations do not consider retirement plan assets to be available for college expenses. Your chances for financial aid, therefore, are greater if you have money in a retirement plan than in a bank account.

Keep money in your name

If you have extra money to save, beyond what you can put in retirement plans, do not put that money in your children's name, even though you may be tempted to because of some nominal tax benefits. Doing so reduces the chances of getting financial aid (35% of your child's assets are considered available for college expenses every year, versus 6% of yours).

By putting money in your children's name, you have created the possibility that when they become adults, they may decide not to use the money for college but for a new sports car or a trip to Europe. You could probably never imagine your child doing such a thing, but more than one parent has rued the day they set up an account their children controlled. Third, shortly after your child enters high school, start investigating possible financial aid sources, current financial aid calculations and work study programs.

These most frequently asked questions -- which comes first, college or retirement, and how can I save for both? -- are reflections of your love for your children. You want to do what is best for them. It sounds selfish to put retirement first, but it's a must. You owe it to yourself and to your children. Take the long view and envision yourself at age 75. Will you be resentful that you have to live a modest lifestyle? Will you feel that your children are not grateful enough?

Forget your own college experiences; it's a different world now. Protect your own financial strength, because that's the way to ensure that you'll live an independent retirement without being a burden on future generations.