By Fred Amrein
In a recent study by The Princeton Review, college affordability and avoiding student debt were primary worries among parents and students during the college selection process. These two financial concerns were more important than getting into the student’s first college choice.
Today, clients face an uphill battle of trying to pay for college even as college costs outpace inflation. To make things more difficult, several careers require post-graduate studies. These factors need to be considered as part of any good college financial plan. Paying for college is one of the most important and expensive decisions a client will make for his or her child. For this reason, having a better knowledge of the financial aid process and various college saving plans is critical to helping clients reach their goals and avoid excess student debt.
Understand the Financial Aid Position
For some parents, their college savings plan is hoping for scholarships. The first step in creating a college savings plan is to understand the client’s financial aid position. This is called the Expected Family Contribution, or EFC. By knowing this number, a financial adviser can create a more realistic savings goal compared to what is presented by most colleges as the full cost.
Colleges use two EFC methodologies. The first is the federal method, which uses the Free Application for Federal Student Aid, or FAFSA. This is used by all schools who distribute federal college funds. The second EFC calculation is called the independent method, which is typically used by more competitive colleges. Some colleges have their own process, but the most common independent EFC method is called the College Scholarship Service (CSS) Profile. The independent methodology is also used for some need-based scholarships.
To get an estimate of these numbers, there are two websites that offer a free EFC calculator that gives both calculations: EFC PLUS and College Board.
There are many free financial websites that promote helpful college information and calculators. But to properly calculate the EFC, parents must disclose most of their personal financial information. Just as a warning to you and your clients, many of these sites are data research sites that collect this information and sell it.
Overlooked PA 529 Plans
The state of Pennsylvania offers two 529 plan options: the Guarantee Savings Plan (GSP) and the Investment Plan (IP). The state treasurer runs the GSP, while the IP is managed by The Vanguard Group. Both of these are good plans that offer different benefits depending on the timing and risk tolerance of the client.
The GSP is the old TAP program, and is a hybrid of a prepaid tuition 529 plan. There are many misconceptions about this plan – one being that it can only be used for Pennsylvania colleges. This is not true. It offers a great alternative since it is not dependent on interest rate changes but on tuition increases at the various types of colleges. The only major restriction is that the money needs to be in the plan a year before it can be accessed. Also, the best time to make deposits is prior to Aug. 31 since the rates change every Sept. 1.
The IP plans offer investment options, such as an age-based portfolio or risk-based investments. There is no restriction regarding the length of time deposits must be in this type of plan. However, an IP increases market risk and is limited to two changes per year.
Pennsylvania residents receive a state income deduction for contributions to a 529 plan, even while the student is in college. Many people believe 529 plans are only precollege tools, which is not true. Both of these plans can be used as part of a tuition payment plan while gaining a tax benefit.
U.S. Saving Bonds and Coverdell Accounts
Two other college saving plans are U.S. savings bonds and Coverdell Education Savings Accounts. Both of these are good options, but they have some income limits that may affect their tax-free advantages. The Coverdell offers two major advantages: investment flexibility and the ability to be used for precollege expenses. Both can be converted into a 529 plan to maintain their tax-free educational advantage.
Proper Use of “Kiddie Tax” Rules
For families who have significant investment portfolios, proper use of tax harvesting and “Kiddie Tax” rules can be a great advantage. This is done by using the “in kind” transfer to a child, and liquidating the gain under the “Kiddie Tax” limits.
Finding the best ways to save and pay for college is becoming a more significant part of many families’ financial plans. CPAs and financial advisers need to use a variety of tools to lower their clients’ out-of-pocket expenses. To create the best strategies, advisers need to understand the financial aid process, college savings plans, educational tax strategies, student loans, and various loan repayment options.
Educational savings plans are just one tool among an adviser’s many options. Having a combination of strategies will better help your clients reach the goal of educating their children at the lowest cost.
Fred Amrein is the founder of College Affordability LLC in Wynnewood, Pa. He can be reached at firstname.lastname@example.org.