Your sending your daughter to a prestigious private college starting next year.

Question

Your sending your daughter to a prestigious private college starting next year. She will attend for four years. The current cost for one year is $60,000, but is expected to rise 2% per year over the next 10 years. The school has a “tuition stabilization” plan whereby you can pay for the entire four years by writing a single check for $240,000 when your daughter begins college. Otherwise, you simply pay each year’s tuition as you go. If your investments earn 6% per year, should you pay as you go or take the tuition stabilization plan? How much do you save in present value terms by taking the cheaper alternative?

Explanation / Answer

PV of annual payment = 60000*1.02 + 60000*1.02^2/1.06+ 60000*1.02^3/1.06^2+ 60000*1.02^4/1.06^3

PV of annual payment = $ 231,288.70

Decision : You Should pay as you go

You save in present value terms by taking the cheaper alternative = 240000 - 231288.70

You save in present value terms by taking the cheaper alternative = $ 8711.30

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