With college prices rising at a substantial rate, many parents look for alternative ways to finance their child’s education. These days, a high school graduate can expect to pay upwards of $200,000 for an undergraduate degree at a top school and over $10,000 each year for in-state tuition alone at a public institution. It might seem that a grandparent’s willingness to help their grandchild pay for college is the answer, but in reality, grandparent contributions could harm the student’s chances of receiving financial aid. Here’s a glimpse of how financial aid works and what grandparents can do instead.
Expected Family Contribution
Starting with the basics, here are the five factors that the Federal Student Aid board takes into consideration when deciding how much financial aid to give a student:
- Parental income
- Number of children in college simultaneously
- Marital status of parents
- Assets in the student’s name
- Schools on the student’s list
Keep in mind that these factors are not all weighted equally. For example, income has a much greater impact than assets.
Using the Free Application for Federal Student Aid (FAFSA), the Federal Student Aid board combines these factors to calculate how much the family can contribute to college costs and the student’s financial aid eligibility. By subtracting the EFC (which stays constant) from the cost of college (which varies by institution), they then come up with the student’s financial need. The resulting financial aid can then cover all or a portion of the financial need and can come in the form of grants, scholarships, student loans, and work-study jobs. A student may receive both federal aid and institutional aid from the college itself.
How Do Grandparent Contributions Affect Financial Aid?
Since EFC is calculated by using the parents’ income and assets and the child’s income and assets, you might be wondering how grandparent contributions affect financial aid eligibility. While the Federal Student Aid board looks at current assets, they use the past two years of income tax information, recalculating EFC each year that the student applies for financial aid. For example, for the 2018-2019 school year, your application would include your 2016 and 2017 tax returns.
Direct Monetary Gifts
If a grandparent gives a student money, it is treated as the student’s income, which can greatly impact financial aid eligibility. A gift to the parents is not counted as income, but it could increase the assets of the parents, which is not as detrimental to eligibility as income. Grandparents sometimes prefer to make tuition payments directly to the college because direct tuition payments are not subject to gift tax and generation-skipping transfer tax. Otherwise, with the exception of 529 college savings plans, only gifts of $15,000 ($30,000 for a couple) per year can avoid being subject to those taxes. However, colleges often reduce the student’s institutional financial aid by the amount of the grandparents’ payments.
What if the student is the beneficiary of a 529 plan? Grandparent-owned 529 plans are not counted as assets, but withdrawals are counted as income to the student. Parent-owned 529 plans are counted as assets of the parents, but distributions don’t count as income to the student. Since income is substantially more detrimental to eligibility than assets, it might make sense for the grandparents to put the 529 plan under the ownership of the parents. However, when determining institutional financial aid, colleges usually require a student to list all 529 plans for which he or she is the beneficiary and treat parent-owned and grandparent-owned 529 plans the same.
What Can Grandparents Do Instead?
They say that no good deed goes unpunished, and it certainly seems that any contribution a grandparent makes will reduce the amount of financial aid their grandchild will receive. However, there are a couple of work-arounds.
One such work-around is for grandparents to not help at all in the early years of college. If they wait to give funds until after January 1st of the student’s junior year, the student will no longer need to fill out financial aid forms and their income tax returns will not affect their aid. If the student plans to use financial aid for graduate school, you may need to wait until they are in the last year and a half of using financial aid.
The simplest solution of all, assuming the grandparents don’t own a 529 plan, is for the grandparents to save the money they would have used to help with college costs and give the funds to the student after graduation. This way, the student can qualify for maximum financial aid and then use the gifted funds to pay off their student loans. As counterintuitive as it sounds, sometimes the best way for a grandparent to help with a grandchild’s college expenses is to not help.
On the other hand, if a student will not be receiving financial aid, none of this applies and grandparents can give to their heart’s content.
Get The Help You Need
Your head might be swimming from all the details and complexities. Rules can change at any time and each individual has unique circumstances, so it’s critical that you rely on a professional to walk you through each step of the college planning process. Did you know that your Certified Financial Planner (CFP®) can help you create a college funding plan that makes sense for your family? Don’t try to muddle through the fine print on your own. To learn more about how Wealth Management Group, LLC can help with your college planning, contact my office by emailing firstname.lastname@example.org or by calling (214) 644-2564.
Bob Rothe is a financial advisor and the president of Wealth Management Group, LLC. Along with nearly 40 years of industry experience, he is a CERTIFIED FINANCIAL PLANNER™ professional, with advanced knowledge of comprehensive financial planning that’s personalized to his clients’ needs. He specializes in wealth management for pre-retirees and retirees. Based in Allen, Texas, he serves clients in Collin County, the DFW metroplex, and throughout Texas and other areas of the country. Learn more by connecting with Bob on LinkedIn.