October 1st marked the first day that the FAFSA could be submitted to colleges and universities. FAFSA stands for Free Application for Federal Student Aid. While the college landscape looks much different this year than it ever has in the past, saving for college and the questions that come with it will never go away, and rightfully so. I was on a call with John Hancock’s college planning specialist and the numbers were startling. At the current rate of tuition inflation, a four year degree at Rutgers (in-state) starting in 2038 would cost somewhere in the neighborhood of $276,000. Ivy League schools are trending toward a whopping cost of $767,000. With those numbers in mind, I wanted to touch on a few of the biggest questions I get regarding college planning. If there are any topics I don’t cover that you have questions about please don’t hesitate to reach out to me.
- What is a 529 plan and what can I use it for?
529 plans are undoubtedly the most popular way to save for college with their largest advantage coming from the tax benefits. The plan is funded with after tax dollars, however, any growth you recognize from there is tax free, provided it’s withdrawn for an approved school use. Qualified expenses include things such as tuition, room and board, computers and dining hall charges. 529’s aren’t just restricted to 4 year universities either. They can be used at most vocational schools, junior college, community college and post grad. Approved use was also expanded to allow up to a $10,000 withdrawal for K-12 tuition.
2. What is the EFC?
The EFC is your Expected Family Contribution. It’s a complicated formula that is probably easier reviewed in person, but, in its simplest form, your EFC would include your income, cash savings, non-qualified investments and student assets. It typically excludes things such as your primary residence, retirement plans and annuities among other things. It’s important to note that assets held in the student’s name have a higher EFC percentage than those in the parent’s name. So if you have accounts such as an UTMA, or a high cash balance in your students name, make sure you understand the impact of that.
3. Who should own the 529?
There is not a one size fits all answer to this. But there are strategies to employ regardless of who owns the assets. You want to spend down assets that count towards your EFC first. So if both a grandparent and parent owns separate 529’s for the same student (yes that’s allowed), you should use the parents 529 first. Which brings me to my next idea. Should you have a grandparent who wants to help with college there are estate planning tools you can utilize as well. The gift tax exemption in 2020 is $15,000 ($30,000 per couple). The 529 allows for a 5-year accelerated gift where grandma and grandpa could use all 5 years at once without gift tax consequences. So if you’re fortunate enough to be in that situation, consider having grandma or grandpa contribute $75,000 in one deposit. That avoids gift tax, helps get assets out of the estate and hopefully sets up your student for a nice 529 balance whenever they are heading to school.
4. What if my child doesn’t go to school or receives a scholarship?
As I mentioned earlier, there are many other types of schooling included in the 529 outside of traditional four-year schools. However, if your student invents the next great tech app, then you can simply change the beneficiary on the account. If your student is an only child, and you personally have no interest in attending any more school, you would lose the tax benefits on the gain. Your principal is safe, however, as you already funded the account with after tax dollars. As far as the scholarship goes, if your student ends up getting a free ride (first off good for you), there are still plenty of other qualified expenses they could use the 529 for. If your account is still overfunded, you would fall back to the options I just mentioned.
As we look at the potential cost of tuition down the line, planning for college may seem like a daunting task. But everything is relative. I’m sure 20 years ago people couldn’t imagine that it would cost $36,000 to go to Penn State. As I’ve said before most of us have a finite amount of dollars we can save. That’s why planning is important. Decide on your goals, prioritize those goals, then save accordingly. If this brought up additional questions, please don’t hesitate to reach out. Feel free to share this with somebody going through this situation right now!