College Savings Plans | 529 Savings plan

Financial Aid and College Savings Plans

Student and parents often say: “We make too much money; we’ll never get any financial aid.”

Perhaps you’ve said this, or perhaps you’ve heard a friend say it. Whichever the case and whatever your income, there are ways that you can minimize your expected family contribution (EFC) to get more financial aid for college tuition and other expenses.

To understand how to minimize your EFC, you need to understand the Free Application for Federal Student Aid, aka the FAFSA.

Colleges use the FAFSA to determine how much money each family can afford to contribute to their children’s college costs. Your EFC is based on more than just your income; it’s also based on assets, cash, savings and checking. The college sees all these things as potential sources that you can tap into to help pay for your child’s education.

It’s true that if you have a low EFC, the chances are greater that a college would be willing to give you more help with the tuition costs. But there are ways to minimize the amount of money that the government sees you have available for college.

College Savings Plans

Margin Accounts

Over time, many people accumulate retirement money in IRAs, 401(k) and 403(b) accounts. These particular accounts, because they are for retirement, are considered untouchable in the college FAFSA formula. Any money in this type of retirement account will not be calculated into your EFC.

On the other hand, money in stock markets, money markets, mutual funds, etc., is included in the EFC calculation. The government looks at this money as money that is available to you to help pay for your child’s education/tuition. There are ways to shelter this money, such as establishing a “margin” account against all (or a portion) of the value of the stocks.

Parents- If you have a lot of resources in stocks and other investments, it may be a good idea to consult a financial adviser about how to shelter these resources in margin accounts or a 529 savings plan.

Home Equity

The FAFSA does not include home equity in its EFC calculation. However, some elite schools do reserve the right to look at your home equity and calculate that into your ability to contribute. They consider it money that you have readily available, and some schools may require you to use home equity loans to pay for your child’s education.

One way to prevent this is to open a line of credit on your home equity but not draw down on that line. In other words, you can be approved for your home equity loan and never use it. The college will only see that the line of credit has been established and is not available for you to use in paying for college.

Again, only elite colleges that require extra financial documentation may look at home equity. If your child is not interested in attending an Ivy League college, you can still benefit from investing money in your house. Since the FAFSA doesn’t look at your house or home equity, money sitting in the stock market or mutual funds might be better spent in paying down the mortgage on your house.

529 Savings Plans

A 529 savings plan is a very simple way to save for your child’s education. 529 savings plans are state-operated investment plans that offer a tax-exempt way to set money aside for your student.

Unlike custodial accounts, the money in a 529 account is not used in calculating your EFC. The downside of 529 savings accounts is that the money must be used toward the student’s education. If it is not, there is a monetary penalty.

This can be a good type of account for grandparents who want to contribute to students’ education. Not only are 529 contributions excluded from your estate and from the FAFSA, grandparents can also switch beneficiaries to other grandchildren if the need arises.

Custodial Accounts  

Something to be wary of is establishing a custodial account (such as a UTMA or UGMA) for your son or daughter.

It sounds like a good way to save for college, especially if there is a grandparent who wants to leave the student a gift of some kind.

But in the current FAFSA formula, assets like college savings plans owned by a child (including assets in a custodial account) count much more heavily for determining financial aid than the parent’s assets. The government expects that 35 percent of any money in the student’s name will be used toward paying for college, while only 5.65 percent of assets in a parent’s name will be designated for college. Putting aside money for your student is a great idea, but to minimize your EFC, avoid putting it in your student’s name.

Before you move any of your assets or set up any of these kinds of accounts, be sure to do more research or check with a financial adviser. Going about this the wrong way can lead you down the wrong path, and when you’re paying for college, you need all the resources you can get!