OK, if you have already opened a 529 plan, and you have chosen which investments to use in your 529 plan, then the next step is to actually start getting money into your college savings account. And, it is here where the most important thing about saving money for college comes into play. The most important thing, more important than choosing the right college savings plan, more important than choosing which investments to use in your college savings plan, and more important that updating your higher education financial plan, is consistently automatically investing money in your college savings accounts.
Let me go into a little more detail, it’s that important. We get caught up in the notion that what matters when saving or investing money are things like investment returns, taxes, using the right account, or getting the right financial advice. None of those things matters nearly as much as consistently investing more money. When I was a financial advisor some of the biggest 401k accounts, or 457 plans, I ever saw were from people who didn’t know a thing about them. These people opened the account when they were hired, set some sort of amount to contribute, picked an investment, or just used the default, and then never touched it again. The reason these people were so successful had nothing to do with their understanding of investments or knowing everything about 401k accounts. Every single bit of their success came from putting 5 percent (or whatever) of their paycheck into their 401k retirement plan, every single paycheck without fail.
I’ve talked before about how compound interest and investing returns take a VERY LONG time to add up to real money, so I won’t recover it here (click that link if you want the proof) but what really speeds things up is to keep investing, keep saving, without delay, and without excuses.
So, in a very real way, setting up your saving and investing schedule for your 529 plan is the most important thing about saving for college.
Automatically Save Monthly into 529 Plan
Fortunately, pretty much every 529 savings plan out there allows you to save automatically in one way or another. The Colorado 529 College Invest Plan that we have been using as an example allows you to save via payroll deduction (if your employer allows) or via ACH, which is the technically term for an automatic withdrawal from your checking account. (You could theoretically set up an ACH from a savings account, but federal regulations limit those accounts to just six withdrawals per month, so usually that isn’t recommended.)
The best way to save for college in your 529 plan is to setup automatic monthly withdrawals (called an AIP, or automatic investment program, by the folks at college invest.) For most people the best time to setup automatic payments or investments is right after you get paid. Some people like to call this, “paying yourself first.” The idea is that we are creatures of emotion and impulse, and we don’t live our daily lives according to a budget spreadsheet. That means that if you wait until later to save, you may find out that you are off of budget, that you don’t have enough money to save that month for college. This is the biggest impediment to your building up a big college savings account. Every month you skip is money you not only lose by not saving, but money you don’t earn any interest or investment returns on. Don’t kid yourself that you will “make it up.” In all the years I was involved in personal finance and planning, the number of people who ever made it up was minuscule. If you don’t have extra money now, you won’t have extra money later. The people who did eventually make it up, usually did so out of an unexpected windfall of some sort.
If you get paid on the 1st or the 31st, then set up your automatic investment for the 2nd or 3rd (this allows you to avoid any issues with weekends or holidays). Make it automatic, that way you don’t have to remember. There is another reason to make it automatic. You know how I just told you that we are creatures of emotion and sometimes we don’t roboticly follow our budget? We are also creatures of effort. In order to make a non-automatic investment, you not only have to remember, but you have to actually sit down and do it. How many times do you remember things while you are in the shower, or the car, or at work, and then they don’t get done because you forget about them by the time you get home, or wherever you need to be to actually do it?
If you have an automatic investment, you not only won’t forget, but you’ll be less likely to cancel it either. Just like you have to remember and then actually do it to make a non-automatic investment, you have to remember and then actually do it to cancel an automatic one. If it takes that much extra effort to cancel and investment, you are less likely to do it. That is using human behavior to your advantage, rather than the other way around.
If you get paid weekly or bi-weekly, that can be trickier. Still, you can set up an automatic investment just the same. Figure out when you have a peak in your checking account. Maybe it’s a time of month far away from when your mortgage payment or rent is due. Ideally, if you keep some extra cash in your checking account, this issue would be moot.
Annual AIP Increase
You remember those people with the big 401k accounts when they retired who didn’t know anything about investing or retirement planning I was telling you about. One of the other advantages they had is that 401k contributions are typically done via a percentage of your salary. The brilliant thing about using a percentage for your salary deferrals into a 401k retirement plan is that your contributions automatically increase when you get more income. Very few people contributing something like 8% of their salary to a 401k savings plan go back in and lower the percentage when they get a raise in order to keep contributing the same amount. Instead, they start contributing more, before they ever have a chance to notice or get used to what the higher pay is like. Again, that’s using human nature to your benefit.
Which brings us to an interesting feature of the College Invest 529 savings plan. Although this is not unique, not all plans have this. It’s called an Automatic AIP increase. It works by automatically increasing the amount you invest in your college education fund. You pick a month, and an amount and every year, they will automatically start taking more money from your account. Again, use this feature to take advantage of human nature. Even if you don’t feel like doing an increase in a year, it will happen automatically. What are the odds you’ll actually go back in and change it when it happens? On the other hand, if you don’t use this feature, what are the odds you’ll go back in and increase in a year, instead of it being 18 month, or 3 years, or never?
Click the AIP button and choose a month. If you usually get a raise in December, then pick January. The increase should be meaningful, but doesn’t have to be huge. If you are contributing $100 per month, maybe make a $10 increase. That’s 10 percent. If you can do more, then do it. Don’t forget to manually increase it, or contribute a lump sum when you get a bonus or tax refund, all the way up to your maximum 529 plan contribution.
Remember, contributing automatically, consistently has the biggest impact on your overall success.