Roanoke Times
Copyright (c) 1995, Landmark Communications, Inc.
DATE: MONDAY, April 26, 1993 TAG: 9304250014
SECTION: BUSINESS PAGE: 6 EDITION: METRO
SOURCE: MAG POFF STAFF WRITER
DATELINE: LENGTH: Long
Much worse is the chilling idea that comes to the parent of a student looking forward to high school. Only four years before the family makes one of its most expensive purchases, a college education.
Because time equates with growth when it comes to money, those few years make a tremendous difference in the amount that can be saved for higher education.
Even so, John C. Parrott II, a certified financial planner with Wheat First Securities in Roanoke, recommends somewhat of the same approach for both sets of circumstances.
A young child is likely to get some money, Parrott pointed out. Godparents, grandparents and others often celebrate a birth by contributing toward a college fund instead of buying rompers.
The new parents, on the other hand, are probably just starting out in life. They may have entry-level jobs and salaries and may live in an apartment that suddenly feels like a tight squeeze. Buying a house at this point often seems more important than saving for college.
Or they may be in an expensive house and this is a second - or third - child.
Parrott suggests a two-pronged attack on their problem of saving for college.
On one hand, he would buy zero-coupon Treasury bonds as a foundation of the savings program. As direct obligations of the government, Treasuries provide absolute safety and certainty of return. Plus, they're tax exempt.
Zero-coupon bonds are like U.S. Savings Bonds because payment of the interest is delayed until maturity. They are purchased at a discount from the face value, which is the amount you receive on the due date.
The more distant the date of maturity, the lower the price of the bond.
Because maturity dates can be timed, Parrott suggested having some come due at the start of each of the four years of college.
He said that a $1,000 Treasury bond coming due in 2011, or 18 years from today, recently could be purchased for about $280.
That represents an annual yield of 7.4 percent over the life of the bond, Parrott said.
Bonds maturing the year the child would be be a college senior could be purchased for about $250.
The most important factor for a college plan, Parrott said, is that those amounts are within reach of the average young parent. The parents can also combine gifts for the birth, as well as for future birthdays, to buy the bonds.
The bonds are also good gifts for doting grandparents, he pointed out.
The second part of his strategy is dollar-cost averaging over the years through a stock mutual fund. He suggested a total return fund or a top-grade blue chip fund.
Dollar-cost averaging relies on routine periodic investments over a long time so that some shares are purchased at both high and low prices.
The zero-coupon base is the "sure money," Parrott said. The mutual fund reaches for faster growth because stocks have always outperformed other kinds of investments over a long time.
The secret, Parrott said, is to treat the mutual fund "like the insurance premium or the light bill" in that it has to be paid. He recommended buying shares quarterly.
He also pointed out that investments during the early years, even for less money, pay off more in the end than larger amounts in later years. That's because of the impact of compounding.
Parents of 14-year-old children, on the other hand, face a difficult quandary, Parrott said. "They've got to make a choice."
He would still buy zero-coupon Treasury bonds because of their security. The bonds will cost more because of the short maturity, but Parrott said older parents usually have more resources.
But he suggested stretching out the maturities by buying them for the third and fourth year of college, then trying to finance the two earlier years in other ways.
A $1,000 bond for the third year of college could be purchased recently for about $715, Parrott said. That represents a yield of 5.2 percent a year to maturity.
Another choice is to invest in mutual funds. But in the stock market, a short time span means greater risk.
Investing in the stock market is the fastest way to leverage money, Parrott said, but making that choice depends on the parents' tolerance for risk with money that's earmarked for such an important purpose.
Four years to the start of college gives dollar-cost averaging time to work, Parrott said.
With good fortune, the stock market will rise by the time college begins.
Or it could imitate the years of 1979 to 1981 when the market experienced little or no growth.
Parrott said parents might consider keeping the money in their own name instead of the child's.
A child's unearned income over $1,000 is taxed at the parents' rate in any case, he pointed out.
And once an asset is in the child's name, he warned, he or she can claim it at the age of 18 "to take off with Hell's Angels." That's true even if the parent is listed as custodian for the child.
If parents have a high tax rate, he said, they might consider putting the money in tax-free zero-coupon bonds instead of in Treasuries. Zero-coupon securities appreciate in value but pay no periodic interest, meaning the holder receives no cash income until maturity.
The biggest problem, he's found, is that parents talk about saving, then put it off. At the last minute, they rush into a savings program without planning.
He also suggested that parents "not get stampeded by computer-generated programs" about college costs years into the future. These programs produce shocking figures that scare people, yet nobody can predict the future.
Parents, Parrott said, "ought to be realistic about what they can do . . . . They should focus on doing the best they can."
If the effort falls short, he said, the children must seek student aid and loans. "That's a fact of life for more and more people."
Memo: ***CORRECTION***