Why college savings don't really count as savings

Posted by: Michael Mandel on February 16

I pointed out in my cover story that the government counts outlays for college tuition as consumption, rather than investment. Several readers wrote in and asked whether putting money into a college fund (say, a 529 plan) counts as savings.

The answer is yes and no. At the time when you put it in, it counts as savings. But when you take it out, the savings gets undone so the net savings is zero.

Suppose that your income is $1000 per year. In year 1 you save $50 for college. In year two you spend $50 on college. So in year 1 you spend $950, and it looks like your savings rate is 5%. In year 2 you spend $1050, and it looks like your savings rate is -5%. Averaged over the two years, you have zero savings, at least the way that the government counts it.

Pretty amazing, isn’t it?

TrackBack URL for this entry: http://blogs.businessweek.com/mt/mt-tb.cgi/

Reader Comments

pgl

February 16, 2006 03:28 PM

Well - it is savings as long as Junior is still in high school. But the moment these funds start getting invested in Junior's college education, we have expenditures which reduce the amount of financial assets in the parent's accounts. Now if we count this expenditure as consumption, the CPA calls this dis-savings. You and I would call Junior's trips to all those UC Berkeley (or maybe UCLA) classes as an investment in Junior's future income earning capacity. The financial assets still disappear but now Junior has more human capital. But then our CPA - who likely attended Pepperdine - does not get the point.

Henrique Plöger Abreu

February 17, 2006 12:04 PM

Investing in the future:

"When planning for a year, plant corn.When planning for a decade, plant trees.When planning for life, train and educate people."Chinese proverb: Guanzi (c. 645BC)

Nathan

February 17, 2006 12:19 PM

My question is this, I used to work in the mutual fund industry and 529 plans have seen tremendous growth in the last few years. Many parents are starting their investments new borns now, and over the next 18 years should see increased capital gains. When that money comes out, given the current state of national savings accounting it should significantly depress the national savings rate. For instance, in the situation Mike outlined above my 50 becomes 100 via compounding and interest 10 years down the road. For simplicity lets assume my income remains constant, in year 10, I send my child to school, and spend my income + 100, which equates to -10% savings rate, versus the +5% when I first invested the money. In this case, consumption(or investment) of education based on capital gains in my 529 plan does not net out my beginning savings rate, but actually drives it lower. If that is the case, (and please correct me if its not)then should we expect to see a declining if not negative savings rate for the next several years?

Mark

February 17, 2006 04:55 PM

This has to be the dumbest article I've seen in a while. Of course a 529 or Coverdell is not savings because your going to spend most if not all of it on school. Their purpose is to grow your money, tax free, so you have more to spend when it comes time.

belinda

February 17, 2006 10:00 PM

Mark,

Saving is not saving because the purpose is to spend most of it if not all of it in the future.

You are on to something my friend!

Brandon

February 21, 2006 08:52 AM

I agree that if the money is used for college education then it should be counted as an *investment* rather than consumption. However, if the children do not support their parents in some way during retirement, then it's a pretty foolish investment - 0% return and loss of principal - from a financial standpoint.

However, since the children receive this money without working for it, perhaps it should be considered unearned income and taxed as such with the capital gains tax? (Ok, just kidding on that last part).

Hans Johnsson

February 24, 2006 02:55 PM

Your article, with its focus on overall national statistics, is fine and valuable. However, the problem is much more basic. The root of today´s reporting problem is at the basic company level. When, as shown in "Outlook Scoreboard", BW Dec. 2005, balance sheet equity covers only 10-12% of the market cap of the average (!) company, it is obvious that investors pay for something else than the hard physical assets reported in accounting. Present reporting gives no info about this. We need new, all-inclusive business reporting at the company level, to replace unreliable and irrelevant accounting-based reporting. See "Performance-Based Reporting", Wiley, 2005, for more details!

Mike Mandel

February 26, 2006 09:21 PM

Brandon--The investment in education pays off from the social point of view, rather than the parents. Besides, the parents gets 'psychic' income.

Lion

March 29, 2006 03:45 PM

I think that it's time to count it as investments. But the problem is we can never count the pay back.

Thank you for your interest. This blog is no longer active.

 

About

Michael Mandel, BW's award-winning chief economist, provides his unique perspective on the hot economic issues of the day. From globalization to the future of work to the ups and downs of the financial markets, Mandel-named 2006 economic journalist of the year by the World Leadership Forum-offers cutting edge analysis and commentary.

BW Mall - Sponsored Links

Buy a link now!