After a prolonged and hectic application process due to the FAFSA filing this year, students have now declared where they will be attending college. Parents must now navigate funding this massive expense. For many, it will be a combination of tools which may vary from year to year. Here, we will discuss such options and when they each make sense.
Personal Savings Vehicles
Parents & others who have saved for a child’s education may have begun accumulating funds since they were born, which means a lot of growth opportunity. Below are some common savings vehicles that may be used to fund the cost of college along with their parameters:
- 529 Plans are a great savings vehicle as the funds grow tax deferred and if withdrawals are taken to cover higher education expenses, they are also tax free. Distributions from a 529 account will count as the parents’ income whereas distributions from a 529 plan owned by a grandparent or other adult will count as income for the student, which has a higher negative impact on financial aid
- UTMAs are a popular way to save on behalf of a minor, but these accounts are an unfavorable asset when being considered for financial aid This is because they are considered an asset of the student and can be used for anything other than education once they reach the age of majority. Still, these accounts can certainly be used to fund college expenses.
- Brokerage Accounts- When using a brokerage account, the owner may incur some capital gains due to selling securities that have appreciated to generate cash.
- Roth IRAs- Roths may be used if the owner is 5 years old. If the account has been opened for 5 years, withdrawals can be taken tax free.
- Savings Bonds, if used to cover tuition costs and redeemed in the year the expense occurs, can be redeemed tax free on any earnings.
Federal Student Loans
Most students who apply for FAFSA qualify for some form of federal financial aid. This usually includes loans, grants and work-study. Grants do not need to be repaid, while loans do. Federal loans come in the form Stafford Loans (subsidized and unsubsidized), Parent Plus Loans, and Grad Loans for graduate students. Stafford Loans are needs-based, and the maximum amount awarded for freshman undergrads is $5,500. If the loan is deemed to be subsidized, the government pays the interest while the student is in school and during the
6-month grace period post graduation. If it is unsubsidized, the student begins incurring interest from the time the loan is disbursed. Parent Plus loans can be taken in the parent’s name, and is based on their creditworthiness, not need. There is no maximum for the Parent Plus loan.
Private Student Loans
Private student loans typically require a co-signer and can be used to cover what federal loans and other savings don’t. Many times, the parent can be dropped from the loan after a period of on-time payments. Private loans are not eligible for any federal repayment programs such as income-based repayment plans and Public Service Loan Forgiveness.
Home Equity Line of Credit
While I do not suggest jumping to this option first, if you have a home equity line of credit you can borrow against it to pay college costs. I say this with caution as these lines of credit typically have a variable rate, making future payments unpredictable, and most student loan options offer competitive interest rates. There is no benefit to using this funding source but can certainly be used in a pinch.
Scholarships & Campus Programs
Students can apply for as many scholarships as they wish and will need to do so each year. Many schools offer work study opportunities or other campus jobs that can count towards room and board or tuition, to help further reduce the bill. The following links provide some common FAQs on this type of aid:
https://studentaid.gov/understand-aid/types/scholarships
https://studentaid.gov/understand-aid/types/work-study
One thing we must emphasize for parents is that you can always borrow for education, but you can’t borrow for retirement. Don’t jeopardize your own savings goals to fund an out of reach school. Taking a loan amount that feels right to you is important and specific to each student/family. Researching potential career options after graduation is also worthwhile to try and gauge your return on investment, and whether certain costs are worth it.
If you are a parent with multiple children, taking several Parent Plus loans will likely not be in your best interest. But students taking loans in their own name (even with a co-signer) is not a bad thing. Not only does it give them a personal stake, but it helps to build their credit. They can also use the interest deduction when filing taxes, a threshold that many parents with joint income will exceed and not be able to use. Lastly, you can always help your child pay down or pay off these loans later, and they will learn some valuable financial lessons along the way.
Kristina Mello, MBA serves as Senior Financial Advisor and Director of Financial Planning at StrategicPoint Investment Advisors in Providence and East Greenwich. You can e-mail her at kmello@strategicpoint.com.
The information contained in this post is not intended as investment, tax or legal advice. StrategicPoint Investment Advisors assumes no responsibility for any action or inaction resulting from the contents herein. Kristina’s opinions and comments expressed on this site are her own and may not accurately reflect those of the firm or our parent company, Focus Financial Partners. Third party content does not reflect the view of the firm and is not reviewed for completeness or accuracy. It is provided for ease of reference.
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