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How to Save for College

Do you anticipate putting your child through college? Here's the best advice from financial planners on how to finance your child's college education: Start early. Prices are on the rise every year -- learn how to start saving now!

Eighteen years from now, tuition and room and board for a four-year college education will cost close to $85,000 at a public university and just over $200,000 at a private school. And this doesn't include the cost of books, transportation, and other day-to-day expenses.

To meet those costs, you'll need to put about $115 a month (for a public institution) or $284 a month (for a private college) starting from your child's birthdate, in an investment product that will give you an average pretax rate of return of 8 percent.

"Stocks are the best way to achieve the kind of returns you'll need to keep up with rising tuition costs," says Allen N. Jones, a senior vice president at Merrill Lynch. Even though stocks can be riskier than other types of investments, the added risk means you may make more money than you would with a safer investment. And since you won't need the money for many years, if the market goes down in any given year, you'll have plenty of time for your investment to bounce back before tuition bills are due. Historically, investing in the stock market has also been the best way to get a high enough rate of return to beat inflation.

Mutual funds are a good way to invest in the stock market, because they provide diversification and professional management for much less money than you'd need to set up your own portfolio. To set up an individual portfolio, you typically would have to invest about $50,000, divided among ten or so stocks, to get the same amount of diversification a mutual fund provides. You'd also have to pay a commission of at least $50 each time you bought or sold shares, and an annual fee between $30 and $50.

Many mutual fund companies allow you to open an account for as little as $100. (Most funds charge an annual maintenance or management fee.) You'll need to accumulate between $1,000 and $2,500 in that account, depending on the mutual fund company you choose, before you'll be able to invest in a growth-oriented fund that will generate the high return needed to pay future college tuition. You may want to pick a growth fund that invests mostly in stocks, if your child is still a toddler. If you're investing for an older child, you may be better off with a less-risky balanced fund, which typically has the same minimum dollar requirements as a growth fund but invests in a mix of stocks, bonds, and cash equivalents.

Some funds charge a "load," a fee for investing, usually about 4.5 percent of the share price at the time of purchase. Although it sounds like a no-load fund will be a better use of your money, that's not always the case. Don't rule out a load fund simply because of this extra cost--it may have a better track record than a similar no-load fund you're considering when you compare the rates of return over several years. Pick the fund that has the best track record and best meets your investment objectives.

If you participate in an employer-sponsored 401(k) retirement plan, you may have money in at least one mutual fund already. It's not a good idea to borrow or withdraw money from such an account for college expenses; there are burdensome restrictions, and money taken out of the plan has to be repaid, often at a steep rate of interest.