Serious About Saving For Your Kid’s Education? – Here Are 3 Easy Steps To Follow
It costs a lot of money to send your kids to school. It costs even more to send them to University.
But you know this already, so we’ve decided not to focus our blog post on why you need to save for your children’s future education costs. That’s too obvious, and the answer is simple enough – if you don’t start saving today, you will have to borrow the money and sink yourself into some debt, sometime in the future.
If you have kids, is the idea of signing another credit agreement making your stomach turn? Listen up for a second.
This whole ‘saving for your children’s education’ thing can be simplified and shouldn’t be nearly as complicated or as scary as you might have been led to believe.
There are three logical steps every parent can follow, if they are serious about committing to a long-term savings plan, that’s earmarked for future education funding.
Commit, start, and follow through
That’s the first step in the process and it seems like an absolute “no brainer”, right? The trouble is that most of us don’t follow through with 70% of the things we start, especially if they are long-term commitments that require a degree of steadfastness and sticking with the programme.
Think about gym contracts and diets – It’s easy enough to sign up to your local gym at the beginning of the year, but will you still be waking up at 05H00 in the morning in the middle of winter? Salads are great to eat in the first week of your diet, but are you still going to be enthused 6-weeks down the line?
Our life paths are often littered with well-meaning intentions.
Get serious about saving but get even more serious about the fact that you are going to commit to the plan for good.
Accurately work out how much it’s going to cost today, so you can find out what it’s going to cost a decade down the line.
When it comes to starting an education savings plan, most people will take out an endowment policy (fixed-term insurance policy) and commit to a couple of hundred Rand in premiums each month. It helps them sleep better knowing that they are “saving for future education costs” but the fact is they’ve missed one important question:
“How much is this all going to cost in 15-years from now?”
That’s the question you need to start with before you sign on the dotted line. If you don’t accurately work out how much you’ll in need in x amount of years and work inflation into your calculation, you are going to come up horribly short.
So, how do we answer that question?
- If you’re handy with a financial calculator, you can run your own education savings numbers
- You can find an online education savings calculator like this one by Old Mutual
- You can talk to your existing broker or financial advisor
Remember, the cost of education doesn’t only include your kid’s time in the classroom.
There are loads of other costs that you will incur while your child attends school, like uniforms and shoes, sporting clothes and equipment, stationery and school supplies, text books, lunch money, other extra mural activities (like dance classes or learning to play a musical instrument) aftercare facilities and transportation.
What about varsity?
The costs of sending your kid to university includes, amongst the fees, application and registration/enrolment fees, textbooks, stationery and other education supplies and equipment (course dependent), accommodation in student villages or residences (if they don’t remain at home while studying), transportation and parking fees and money for meals and other living expenses.
Getting a handle on current costs will enable you to accurately work out what it’s going to cost in 10 or 15 years from now.
Decide what type of asset class you are going to invest in
Let’s assume for a second that you’ve used a nifty online calculator to work out how much you need to save for your child’s university fees. You are going to need to save R2500 a month and you’ve worked it into your budget.
The next question you need to ask yourself is what type of asset class are you going to use?
Is it good enough to leave the money in your bank? Or do you need to get a better return in order to achieve your goal?
Before we get into the investment class options, consider for a second that in order to work out how much money you’ll need in the future, you need to establish what type of investment return you need on your money year-on-year?
- Do you need a 7% return year-on-year?
- Do you need a 10% return year-on-year?
- Do you need a 20% return year-on-year?
The truth is, the longer your investment horizon (the years you plan to invest for) the less of a return you’ll need in order to achieve your goal. The shorter your investment horizon, the greater your need to get double digit returns, just to make the numbers work.
Putting your money in the bank will give a 7% return year-on-year. It’s by no means a shoot-the-lights-out return on your hard-earned bucks, but your money is safe from market fluctuations.
The only problem is that inflation is eating away at your return.
Did you know that education inflation in South Africa is 9% and increasing every year? That means if it costs you R100 000 this year to educate your child, it will cost you R109 000 next year.
That means that investing your money in the bank at 7%, while you need to match education inflation at 9%, means you need a slightly more aggressive investment class than cash.
So, what asset class can do better for you than cash?
But investing in the stock market is risky, especially if you have no experience.
You can apply for a unit trust investment.
Unit trust funds (or collective investment schemes) are basically investments into shares, cash and bonds. The cool thing about unit trusts is that the fund manager has a mandate to achieve a specific return for the people investing into his fund.
If the mandate of the fund is to do better than banks accounts, but not to put investor’s money at too much risk, the fund manager needs to invest the fund monies accordingly.
Investing into unit trusts is easy, and the fees are generally cheaper than insurance products such as endowment policies. Your investment choices (regardless of which company you go with) are generally broken down into 3 types of funds.
- A stable fund
- A balanced fund
- An equity fund
The Stable Fund
The name says it all, right? No prizes for guessing what the mandate of this fund is. If you want a return that is better than a Money Market one, but you don’t want to see the floor fall out of the stock market dips, this is the type of fund for you.
Any Stable Fund offers the investor some stability in the long-term. It does this by investing a small amount of your money in other asset classes like bonds and equities (stocks).
But only about 20% of your money is invested outside of cash.
Its aim is to produce a return to you, the investor, over the long term and is constantly measured against daily interest rates. The fund manager will have a clear mandate – “Make sure you beat Money Market rates so we can attract more investors, but don’t lose our clients’ money!”
The Balanced Fund
The Balanced Fund is a slightly riskier investment than the Stable Fund, however there is potential for better growth on your investment over the long-term.
How does the fund achieve this?
The fund manager invests a larger slice of the fund’s assets into stocks and bonds. It really is as simple as that.
About 50% of most Balanced Funds are invested in cash, and the remainder is invested in stocks and bonds.
It’s important to note that you need a 5 to 10-year investment horizon when you start investing in any fund that has equity exposure.
The Equity Fund
Are you looking for double digit returns to make your education plan work?
Then you want a piece of the stock market (and that can be local or international). Any financial advisor will be quick to point out that equities (company stocks) have outperformed any other asset class over a 25-year period.
And they wouldn’t be incorrect in saying that.
But the local equity market has been as flat as a pancake for 5-years and cash investments have done better.
If you have a 20-year investment horizon and you understand that in some years you will do well, and in other years, when markets crash, your money will go backwards, then jump into an equity fund.
If the thought of seeing your money potentially lose 30% of its value overnight is too much to handle, then stay away from equities. Try something more balanced or stable.
Until next time.
The MoneyShop Team