Preparing to apply for college financial aid should begin well before a student even fills out his or her first college application. In fact, saving early and understanding the application process are important actions to take in order to maximize the potential for financial aid.
SchoolFamily.com offers a college preparation guide with 15 ways to plan financially for higher education.
Understand how financial aid works
The U.S. Department of Education offers a financial aid calculator: the Free Application for Federal Student Aid (FASFA). Reviewing the application in advance can help families understand their current financial situation and try to calculate future financial aid needs. Some colleges may require additional forms, but the FASFA is required for all federal financial aid.
The financial aid process takes into consideration the parents’ assets and calculates an expected family contribution (EFC). This number is a starting point in determining the level of need. In general, families should begin preparing two years in advance of the application to try to minimize this number, ensure their child’s eligibility for aid, and maximize potential aid.
Here are some strategies to reduce EFC:
1. Move money out of child’s name. Savings held by students may get assessed at a rate of 20% (for Federal Student Aid) to 25% (some colleges require CSS application) per year, meaning that a percentage of their assets will be factored into the expected contribution to college tuition. The Department of Education publishes a guide to help students calculate the EFC.
2. Defer income. Parents may want to explore certain strategies to defer income, such as waiting to collect bonuses until retirement if possible.
3. Keep an eye on capital gains/losses. Investors may want to wait before selling investments to realize capital gains that will increase adjusted gross income. Losses can reduce AGI, and carry-forward [unrealized investment] gains, however, could offset some future loss.
4. Be careful of retirement moves. Contributions to retirement accounts are added back into your AGI in the financial aid formula. Roth IRA conversions can also raise adjusted gross income and may lower the amount of financial aid.
5. Make gifts carefully. Grandparents, planning to gift money to their grandchildren for college, should consider sending the money to the parents to hold for the student after aid has been determined. Or they may gift the money to the student after graduation to help them pay off loans.
6. Understand savings vehicles. Custodial UGMA/UTMA accounts are considered assets of the student. One option to avoid calculating these as student assets is to roll these funds into a 529 plan, which is treated as an asset of the parent.
Timing makes a difference when saving for college. Starting early gives families a better chance to save more and help reduce the need to borrow. Consider using a 529 plan that offers some tax advantages.
In addition, parents may take advantage of a number of tax credits, such as the American Opportunity Credit and the Lifetime Learning Credit. Some families may qualify for deductions such as tuition deduction and a loan-interest deduction. As with any planning effort, a financial advisor can help families explore strategies for saving for college and how to best prepare to access future financial aid.