 
By Janet Arrowood
How can your clients rev up their kids’
college funds and still maximize their chances of getting at least
some needs-based financial aid? By choosing the most advantageous
forms of higher education funding accumulation plans.
Remember that each year, 35 percent of any assets
the child controls are considered available for college costs. Only
5.6 percent of nonretirement assets the parents control are considered
available. This is in total, regardless of how many children are
affected.
College savings options
There are several ways to save for a college, but the four most
common are:
- The Section 529 Prepaid Tuition Plan
- The Section 529 College Savings Plan
- The Coverdell Education Savings Account (ESA)
- Custodial accounts (UGMA/UTMA)
Getting the most aid
Maximizing financial aid requires planning
and careful selection of college-savings plans. When recommending
college savings programs, keep in mind:
- Who controls the money
- The tax implications of each investment option
- When the funds will be needed
- How much money will be needed
Control
For financial aid, there are two overriding
factors—how much money the parents make and who controls the
accumulated assets. Financial-aid organizations recognize that parents’
assets are needed for day-to-day expenses for the entire family.
Therefore, only 5.6 percent of the assets and income under the parents’
control are considered available. On the other hand, 35 percent
of the student’s assets are considered available. What does
this mean for each type of savings plan?
- Prepaid Tuition Plans. Since
the funds are already earmarked, there is a great impact on financial
aid—the money reduces aid eligibility on a dollar-for-dollar
basis.
- College Savings Plans. Since
the funds are considered to be the parents’ (or other donor’s)
assets, these funds fall under the 5.6 percent category. The control
does not rest with the student.
- Coverdell ESAs. Generally
these funds are considered assets of the student and so will negatively
impact eligibility for financial aid. Note that an ESA can be
converted to the more favorable 529 Plan.
- UGMA/UTMAs. The money in these
accounts belongs to the child, not the parent. When the child
reaches the state-mandated age, he or she controls the money.
This means it has a major negative impact on financial aid and
can be spent in any way the child chooses.
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| Thirty-five
percent of assets the child controls are considered available
for college costs. |
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Taxes
All four savings plans are funded with after-tax dollars, but the
UGMA/UTMAs do not get tax-free accumulation breaks—the other
three plans do. Note that there are significant taxes and penalties
on the ESA and 529 plan money if it is not used for allowable educational
expenses.
Funds availability—How
much is needed and when is it needed?
Coverdell ESA. The ESA is very limited
as an accumulation choice since the total annual contribution for
each child is limited to $2,000. If your client starts saving from
day one this is a viable means to build a college account, but its
negative financial-aid impact and limited funding make it a less-than-desirable
choice. However, it could be used to supplement 529 plan savings.
Section 529 Prepaid Tuition Plans.
The contribution allowances to these plans are high enough to ensure
the tuition costs at most state schools will be fully funded. Even
if a child is going to college in just a few years, enough money
can be put into the plan to cover the costs. Of course, this assumes
that your clients have enough money to fund the plan, the child
wants to go to a covered school, and the child is accepted.
Section 529 College Savings Plan.
Total contribution amounts vary by state but range from about $235,000
to $305,000 per beneficiary. Using the five-year forward-gifting
option, any number of donors can contribute up to $55,000 each to
a single beneficiary. This makes the college savings plan a good
choice if generous relatives want to help pay for college (and can
have favorable estate-planning consequences, too). The beneficiary
can go to any accredited college, in-or out-of-state, and the financial
aid impacts are minimal since the asset is not controlled by the
child who benefits.
UGMA/UTMAs. These accounts
have a very negative impact on both financial-aid eligibility and
income taxes. If the income generated by the account exceeds certain
limits and the child is under 14, the taxes are at the parents’
top bracket. In addition, when the child is “of age,”
the entire balance is his to do with as he wishes.
If qualifying for as much financial aid as possible
is important to your client, and having the freedom to go to any
school and change plan beneficiaries is also relevant, the 529 College
Savings plan may be the way to go.
If your clients are certain their children will
want to go to a state school (and will be accepted) and can afford
to adequately fund a plan, the 529 Prepaid Tuition plan may be the
best choice, even though it effectively eliminates the chance for
financial aid.
The UGMAs and UTMAs used in the past rarely make
sense any more—no tax-free accumulation and a dramatic impact
on financial-aid eligibility. And the child can spend the money
as he or she wishes when he reaches the age of majority.
Coverdell ESAs may be a good supplement if started
when the child is very young, but keep in mind the impact on future
financial-aid eligibility. The tax-free growth may not be worth
the loss of aid.
The bottom line?
Control, control, control. If your clients are thinking they will
need or want financial aid, they need to control the assets to be
used for their children’s education.
Janet Arrowood is the managing director of
The Write Source, Inc. in Golden, CO. Reach her at TheWriteSource@earthlink.net.
March 2005
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