College Savings Beyond the 529: When and How to Use Alternative Strategies

saving 2026-02-27 · 4 min read college savings 529 plan Roth IRA education costs financial planning

The conventional wisdom is: open a 529 plan when your child is born and contribute monthly. For many families, that's excellent advice.

But 529 plans have real limitations, and depending on your financial situation, there are strategies that work better — or work better alongside a 529.

What a 529 Plan Does Well

Before exploring alternatives, understand why 529s are the default recommendation:

Tax-free growth: Earnings grow tax-free when used for qualified educational expenses
Tax-free withdrawals: No federal tax on distributions for qualified expenses
State deductions: About 35 states offer income tax deductions on contributions
High contribution limits: Technically no annual limit (subject to gift tax considerations), with high lifetime limits ($300,000-$550,000 depending on state)
Owner control: The account owner controls the money, not the student

These are meaningful advantages. For families who are confident their children will attend college, a 529 is hard to beat.

The 529's Limitations

Penalty for non-educational use: If your child doesn't use the money for college, withdrawals face income tax PLUS a 10% penalty on earnings. This risk is real — about 40% of students don't complete 4-year degrees.

Financial aid impact: 529 assets owned by parents count against financial aid eligibility (at 5.64% of asset value). Student-owned 529s count more heavily.

Investment options are limited: Unlike a brokerage account, you're restricted to the plan's offered funds. Some state plans have poor options and high fees.

SECURE 2.0 partial relief: Since 2024, you can roll up to $35,000 from a 529 into a Roth IRA (with restrictions), reducing the penalty risk. But $35,000 may be far less than an overfunded 529.

Strategy 1: Roth IRA as College Savings

If you're not maxing your Roth IRA for retirement, consider using it partly for college savings.

How it works: Roth IRA contributions (not earnings) can be withdrawn at any time, for any reason, penalty-free and tax-free. In the worst case (child doesn't attend college), the money stays invested for retirement.

Advantages over 529:

Penalty-free withdrawal if college is skipped
Better financial aid treatment (retirement accounts often excluded from FAFSA calculations under some rules)
Stays yours if the child doesn't go to college
Broader investment options

Disadvantages:

Annual contribution limits: $7,000/year in 2026 (vs. unlimited for 529)
You must have earned income
Depleting your Roth IRA for college reduces retirement savings — the order of priority matters

Best for: Parents who haven't maxed retirement savings. Fund retirement accounts first — your child can borrow for college; you can't borrow for retirement.

Strategy 2: UGMA/UTMA Custodial Accounts

Uniform Gift to Minors Act (UGMA) and Uniform Transfer to Minors Act (UTMA) accounts are custodial accounts held in the child's name, transferring to them at age 18-21.

Advantages:

No restrictions on use — the money can pay for college, a business, a down payment, anything
Flexible investment options (any standard brokerage)
No contribution limits beyond gift tax exclusion ($18,000/year per donor in 2026)

Disadvantages:

Financial aid impact is severe: Student-owned assets count at 20% against financial aid eligibility, vs. 5.64% for parent-owned 529s
Irrevocable: Once contributed, it belongs to the child. You cannot take it back.
Kiddie tax: Unearned income above $2,500 is taxed at the parent's rate until age 19 (24 if a full-time student)
No tax advantages — no deductions, no tax-free growth

Best for: Families with high incomes who won't qualify for financial aid anyway, or for funding non-educational goals alongside college.

Strategy 3: I-Bonds for Education

Series I Savings Bonds earn interest tied to inflation (currently competitive with HYSAs). The interest is tax-deferred federally and can be entirely tax-free if used for qualified education expenses — but only if the bond owner (not the child) pays for college and meets income limits.

2026 income limits for education exclusion:

Single: phases out $93,150–$108,150
Married filing jointly: phases out $139,250–$169,250

Advantages: Guaranteed inflation-adjusted returns, education tax exclusion if you qualify, no state/local tax on interest.

Disadvantages: Income limits exclude many families at peak earning years; $10,000/year purchase limit per person; 1-year minimum hold period; penalty for redeeming before 5 years.

Best for: Lower-to-middle income families as a supplement to a 529, particularly good as a conservative "floor" investment in the portfolio.

Strategy 4: Taxable Brokerage (Long-Term Capital Gains)

Simply investing in index funds in a regular brokerage account, holding long enough to qualify for long-term capital gains rates (0%, 15%, or 20% at most incomes).

Advantages: Complete flexibility, no penalties, no restrictions on investment options or use.

Disadvantages: No tax advantages compared to 529. Long-term capital gains rates apply on profits. FAFSA considers these assets.

Best for: Flexible savings that might go toward college or might not. Good for children whose college trajectory is uncertain.

What the Data Says About College Costs

Before choosing a savings strategy, calibrate your target:

Community college: ~$4,000/year tuition
Public in-state 4-year: ~$10,000-12,000/year tuition + $14,000-18,000/year room/board
Public out-of-state: ~$28,000/year tuition
Private 4-year: ~$38,000-55,000/year tuition

But also know: many private colleges offer significant financial aid. A $70,000/year list price school might cost a family $30,000 after merit/need aid. High-income families often pay more at "public" schools than at private schools with generous endowments.

Don't save for the sticker price — save for the likely net price, factoring in expected financial aid.

The Right Strategy for Most Families

If you haven't maxed retirement accounts: Fund 401(k) match → Roth IRA → HSA → then consider 529.

If you've maxed retirement accounts and child will likely attend college: Open a 529 in a state with good investment options and a deduction (or a plan like Utah's my529 if your state doesn't have great options). Contribute monthly, invest in age-based index funds.

If college is uncertain: Consider 50% 529 / 50% Roth IRA split. If college happens, use the 529. If not, the Roth IRA becomes retirement savings.

If your income is high and you expect no financial aid: 529 with potential UGMA supplement for flexible savings.

The universal rule: Start earlier rather than later. An extra 5 years of growth can fund a year of college on its own. The best strategy is a decent strategy started today.

Get more money-saving tips every week at frugalrise.substack.com.