Saving for college in a tax-advantaged account
A 529 plan grows free of federal tax and pays out free of tax when the money goes to qualified education costs. The horizon is fixed by the child's age, which makes the arithmetic unusually concrete: you know the deadline on the day you open it.
The formula
An opening amount compounding for the full term, plus each monthly contribution compounding for however many months remain after it lands.
Worked example: $5,000 opening, $300 a month, 18 years at 6%
- Total contributed: $69,800
- Balance at 18: $130,890
- Growth: $61,090, or 87% of what you paid in
Nearly half the final balance is investment growth, and none of it is taxed if it goes to tuition. That untaxed portion is the entire point of the account.
Starting at birth against starting at eight
| Start at age | Years | Contributed | Balance at 18 |
|---|---|---|---|
| 0 | 18 | $69,800 | $130,890 |
| 4 | 14 | $55,400 | $88,900 |
| 8 | 10 | $41,000 | $56,200 |
Waiting eight years costs $28,800 in contributions and $74,690 in final balance. The missing $45,890 is the growth those early payments would have earned.
Does it cover the bill
$130,890 is roughly four years at a public in-state university at today's prices — but education costs have historically risen faster than general inflation. At 5% college inflation, a $25,000-a-year programme today costs about $60,000 a year in eighteen years.
Run the target through an inflation calculator before deciding the contribution is enough. Most plans that look sufficient at today's prices are not.
What this calculator leaves out
State tax deductions on contributions, which many states offer and which materially improve the return. Also the age-based glide path most plans use: the portfolio shifts toward bonds as the child approaches 18, so the last few years typically return less than 6%.
And the penalty side: non-qualified withdrawals pay income tax plus 10% on the growth portion.
What happens if the child does not go
The account is not stranded. The beneficiary can be changed to a sibling, a cousin, a grandchild or yourself without penalty, and the money keeps its tax treatment.
Qualified costs also extend beyond a four-year degree: apprenticeships, trade schools, and up to $10,000 of student loan repayment per beneficiary all count. Recent rules additionally permit rolling unused balances into a Roth IRA for the beneficiary, subject to a lifetime cap and holding-period conditions.
Only a genuinely non-qualified withdrawal triggers tax and the 10% penalty, and even then the penalty applies to the growth alone, never to the contributions.
The state deduction changes the arithmetic
Around thirty states allow a deduction or credit for contributions to their own plan. At a 5% state rate, a $3,600 annual contribution saves about $180 in tax.
Over eighteen years that is roughly $3,240 returned, which is nearly two-thirds of the $5,000 opening balance in the example. Reinvested rather than spent, it adds several thousand more to the final figure. Check whether your state offers it and whether it requires using the in-state plan.
Related calculators
- Inflation calculator — what the target figure needs to be in eighteen years
- Savings goal calculator — works backwards from a number you need
- Compound interest calculator — the same maths with any horizon