Is anything more absurd than the federal tax code? Yes, the federal financial-aid form known as the FAFSA (Free Application for Federal Student Aid). Consider these oddities.
Money Saved in a Child’s Name
Under the federal tax code, you get a tax break for saving in the child’s name. For children under 14, the first $700 of investment gains are tax-free; the next $700 is taxed at the child’s tax rate of 15%, and amounts above that are taxed at the parents’ tax rate.
Money in a child’s account becomes theirs at age 18. Since they then control the money, they may (and some always do) decide to buy a fancy car or go on a fling instead of using this carefully saved money for college.
If you take advantage of this tax break, you will be penalized by the federal financial-aid formula. Under this formula, kids are expected to contribute 35% of assets in their name toward college for each year of college. If a child had an account with $50,000, the child’s contribution for college in the freshman year would be $17,500.
By contrast, parents are expected to contribute 5.6% of assets in their name. And some of their assets are protected from assessment at all. Worst case, parents would be expected to contribute only $2,800 of this $50,000 account if it were in their names.
Parents control the money in their accounts. So the money would be spent as the parents direct, and it’s doubtful that for them, a car or grand fling would come ahead of a college education.
Working to Save for College
The financial aid system punishes kids who work to save for college or try to work their way through college. Under the federal financial aid formula, students contribute 50 cents of every dollar earned above $2,200. Worse yet, if the student saves the money, they will contribute another 35 cents of every dollar. Result: Every dollar earned AND saved costs the student 85 cents in lost financial aid.
Selling Investments to Pay for College
If you sell investments with large capital gains in the “base year,” the tax year ending 12/31 of the senior year, you increase your income for the year. This in turn decreases your eligibility for aid. Financial aid formulas are heavily weighted towards income. The same applies to students whose assets are sold to pay for college.
Too Complex . . . Consult an Expert
College is one of the three biggest investments in your life. It usually comes after you buy your home and before retirement (the other two). The best investment you may make is finding a financial planner who really understands how to pay for college by utilizing other sources to pay for college and using your cash flow and assets prudently.
A financial planner who knows how to maximize use of your assets and financial aid and how to select colleges that will fit in your college budget can help you in very significant ways:
If you are trying to find the best way to save, they can help you understand different saving strategies for college. They will help you develop realistic savings targets and assess the likelihood of your financial aid eligibility. With college near at hand, they will guide you through the myths surrounding financial aid and whether you will qualify. And they can help you identify schools more likely to award aid to you and your student.
When the college planning process begins in the sophomore year of high school, the planner can assist you with education tax planning strategies to make dollars available for college. They will help you understand all the financial aid forms that may be required (FAFSA, Profile, individual school forms), assure consistency of information, and timely filing of all forms. Being late with a form can cost you big bucks.
They may provide insight into how a particular school may view your case. And they provide guidance in informing schools about special circumstances that impact your family’s ability to pay for college. They will help you understand the financial aid award packages you receive and determine which are best for you.
They provide a calm in the midst of the senior year storm. College is the most complex decision a family makes together. Having someone who knows the ropes and can show you how to navigate them may make the senior year a family celebration rather than a family confrontation. You may find their fee is worth its weight in gold.
Calleigh Queenan currently writes for vacuum cleaner reviews, an online reviews created to share her honest opinions based on hands-on experience on products. Calleigh is a stay at home mom and enjoys offering her tips on Hoover vacuum Reviews.
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