The average tuition and fees at an in-state public college is about 73% less than the average sticker price at a private college, at $10,116 for the 2019-2020 year compared with $36,801, respectively, U.S. News data shows. Among ranked private colleges, 120 charge sticker prices of at least $50,000 for the current academic year, according to tuition and fees data reported to U.S. News by 785 private institutions. Only a few ranked private colleges and universities – 61 – list a full rate price of less than $20,000 for 2019-2020.
Thankfully for parents and grandparents, it's never too early to start saving and there are many options to help you prepare for one of the most important milestones in the lives of your children or grandchildren.
A common option used for paying for college and educational expenses is a 529 plan, which is an education savings plan sponsored by a state or state agency. A 529 plan can be purchased not only by parents, but also grandparents and other relatives. When you purchase a 529 plan, your earnings grow tax-deferred and any qualified withdrawals are tax-free. As a child reaches college age, he or she can use the accumulated funds to pay for qualified expenses including tuition, room and board, books and computer equipment. While 529 plans have many advantages and can be useful in preparing for the future, there are limitations to consider as well.
Limitations of 529 plans include:
- An account can lose value due to market downturns
- You pay penalties if the money is not used for education purposes
- The account earnings can affect an application for financial aid
- Many plans include yearly fees and administrative costs
Plus, if your child receives a scholarship, you will likely only need a portion of the money saved in your 529 plan. If you end up with remaining funds or if a child decides not to enroll in school, the beneficiary can be changed to another family member. However, if you do not have other family members looking to attend, you may have to pay significant penalties to withdraw your savings for other purposes, depending on the rules of your state's 529 plan.
Using an annuity
One tool to consider as part of an overall college saving strategy is a fixed or fixed indexed annuity. A significant benefit of these products is your account value can grow tax-deferred and is protected from downside market risk. So when the market is up, your money can grow, but when the market is down, you do not lose any of your hard-earned savings. Plus, if your child receives a scholarship or decides to pursue another path besides college, the money in your annuity can be accessed for other purposes.
Keep in mind that annuities are designed to help you reach long-term savings goals. While most annuities allow you to withdraw a certain amount each year without penalty, you'll likely pay charges on withdrawals over that amount during the annuity's withdrawal charge period. This period typically ranges from five to 10 years or more, depending on the annuity.
Helping pay tuition
As with many financial plans, there is no time like the present to begin saving. An annuity purchased when your children are young can assist with tuition costs down the road. One option would be to purchase an annuity with a withdrawal charge period that coincides with the length of time it takes for your child to reach college age. For example, if on your child's 8th birthday you purchase an annuity with a surrender charge period that ends in 10 years; your child will be 18 and entering college. At this time, you'll be outside the withdrawal charge period, meaning you'll have full access to the annuity's value to supplement tuition payments.
It's important to remember that withdrawals from an annuity may be subject to state and federal income tax. In most cases, withdrawals taken before age 59½ will also be subject to a 10 percent IRS penalty.
How To Shelter Assets on the FAFSA Form
Student and parent assets can affect the student’s chances of getting grants and other need-based financial aid. There are, however, several steps you can take to reduce the impact of assets on eligibility for need-based aid.
Sometimes families want to shelter assets on the Free Application for Federal Student Aid (FAFSA) to increase eligibility for need-based financial aid. Sometimes they want to preserve assets for future use for something other than higher education, such as down payment on a house or starting a business.
There are four main methods of sheltering assets on the FAFSA:
- Reportable vs. Non-Reportable Assets
- Strategic Positioning of Assets
- Simplified Needs Test
- Spend Assets Strategically
Assets must be reported on the FAFSA as of the date the FAFSA is filed. In practical terms, this usually requires reporting the net worth of the asset as of the most recent bank and brokerage account statements. However, you can make last-minute changes in your assets before filing the FAFSA, so long as you keep a dated printout from each account’s website showing the account balance after the change in assets.
Reportable vs. Non-Reportable Assets
Some types of assets must be reported on the FAFSA, while other types of assets are not reported on the FAFSA. Shifting an asset from a reportable category to a non-reportable category can help shelter the asset on the FAFSA.
Reportable and non-reportable assets are illustrated in this table.
One of the most common mistakes on the FAFSA is to report retirement plans and net home equity as investments. These are non-reportable assets.
It is also important to distinguish assets from income. Money in a qualified retirement plan is ignored as an asset, but contributions to and distributions from a qualified retirement plan during the base year count as income on the FAFSA. Some of the income may be taxable and some may be untaxed income, but both have the same impact on eligibility for need-based aid. Even a tax-free return of contributions from a Roth IRA counts as income on the FAFSA.
Shifting an asset from a reportable to a non-reportable status may sometimes lead to income, such as realizing capital gains when an investment is sold. Generally, it is best for this to occur prior to the base year, so that it doesn’t artificially inflate income.
There may also be limits on the ability to use a non-reportable asset to shelter money on the FAFSA. For example, qualified retirement plans are usually subject to annual contribution limits, so it may take several years to shelter a lot of money. On the other hand, contributions to an annuity may allow the family to shelter more money more quickly.
Trust funds often backfire. Trust funds are reportable as an asset, even if access to the principal is restricted. The main exception is when a court placed involuntary restrictions on access to principal, such as to pay for future medical expenses of an accident victim. If the restrictions came from the grantor who established the trust, the restrictions are considered voluntary. Another exception is when ownership of a trust is being contested, such as a testamentary trust where the estate has not yet been settled. As soon as the dispute is resolved, however, the trust is a reportable asset.
Note that loan proceeds count as an asset if the money is unspent as of the date the FAFSA is filed. Only loans that are secured by a reportable asset are treated as reducing the net worth of the asset. For example, the net worth of a brokerage account is reduced by the amount of any margin loans against the brokerage account. Any mortgages on the family home are ignored on the FAFSA because the family home is not a reportable asset.
But, if the family owns a reportable asset, such as a vacation home or rental property, any mortgages that are secured by this investment real estate will reduce the net worth of the asset. However, if the family used a mortgage on the family home to buy a vacation home, that mortgage does not reduce the net worth of the vacation home because it is not secured by the vacation home.
A good strategy for sheltering assets is to use them to pay down debt. Using assets to pay off credit card balances, auto loans and mortgages can not only make the money disappear, but it also represents good financial planning sense. If you’re paying a much higher interest rate on your credit cards than you’re earning on your bank account, you will save money by paying off the high-rate debt since you will be paying less interest.
Parents should also consider accelerating necessary expenses. For example, it is better to replace the roof on the family home before filing the FAFSA than soon afterward. Necessary expenses may include maintenance items as well as replacing a car or other equipment that is near the end of its normal life.
Although businesses are treated more favorably than investments on the FAFSA, rental properties are normally considered investments, not businesses, unless they are part of a formally recognized business that provides additional services (e.g., maid service at a hotel). A vacation home is considered an investment, even if you rent it out for part of the year.
Intentions for the use of money don’t matter. For example, if you sell your home and intend to use the proceeds to buy a new home, you must still report the proceeds as an asset until you are legally committed to buying the new home. Similarly, intending to use the money to pay for retirement does not matter, not even if you are already over retirement age.
Assets owned by a younger sibling are not reported on your FAFSA, but may be reported on the CSS/Financial Aid PROFILE form. However, money in a 529 college savings plan, prepaid tuition plan or Coverdell education savings account is reported as a parent asset if the parent or the child is the account owner. Shifting assets to a sibling may have limited utility in sheltering it from need analysis unless the sibling will not be going to college (e.g., a special needs trust).
529 college savings plans, prepaid tuition plans and Coverdell education savings accounts are not reported as an asset on the FAFSA if they are owned by someone other than the student or the custodial parent, such as a grandparent, aunt, uncle, cousin, older sibling or non-custodial parent. However, any distributions from such a plan must be reported as untaxed income to the beneficiary on the subsequent year’s FAFSA.
Paying off student loans
Graduating with student loan debt comes with tremendous responsibility, especially since interest continues to accumulate as time goes on. More than 2.5 million students have student loan debt greater than $100,000 and repaying those loans can be a significant hurdle. One way to help reduce a student loan balance is using income payments from an annuity. Over time, your premiums grow tax-deferred and then at a later date, you can elect to begin receiving payments. Depending on the type of annuity you choose, you can receive income immediately or several years later. These funds can then be used to help reduce any remaining student loan balance. Remember that annuities specify that you must be a certain age before starting income payments.
What's Best For You?
As you begin to take steps toward saving or paying for college, talk to a financial professional about which solutions can help make higher education accessible and more affordable. By starting the conversation now, you can bring the dream of your child's or grandchild's education within reach while still meeting your other long-term goals.
At JenniferLangFinancialServices.com we use unconventional thinking to bring innovative annuity solutions to you that can help make your retirement dreams a reality. Contact us today for a free no obligation consultation.