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Financing education is a hot topic, with as many myths as there are facts. Does saving now eliminate eligibility for financial aid later? Are 529 plans a bad idea? Saving shouldn’t be stressful, and the benefits of saving for college can be substantial. Before committing to a long-term program, consider the following:
It’s cheaper to save now than borrow in the future.
A college savings strategy may reduce or eliminate the need to borrow later. A $250 per month contribution towards college savings earning 6% would grow to about $41,000 in ten years. Compare that to borrowing $40,000 to be paid back over the course of ten years. With a 6% interest rate, you would have 10 years of monthly payments of $444 with a total cost of borrowing over $53,000. Prudent planning and consistency can yield real benefits for families that save.
How do college savings fit in with Financial Aid?
There are two types of financial aid: need-based and merit-based. Merit aid is awarded to students regardless of family income or assets for a variety of reasons: academic performance, athletic ability, other special talents, or sometimes simply because a college wants to round out a class geographically. For need-based aid, colleges will generally weigh a variety of factors including family income and assets (cash, checking/savings balances and college savings, sometimes home equity, or the value of a family business). This is where good planning comes in handy.
When it comes to saving, 529 plans are a viable option. If the funds aren’t eventually needed for college expenses, you can cash out with a penalty and pay taxes on your earnings. Or you can even change the beneficiary of the funds as long as they are related to the current beneficiary.
As a result, families with modest household incomes are in a position to reach college savings goals while still potentially qualifying for need-based aid at many institutions. Saving for college is a good idea and will nicely complement any need- or merit-based aid your student receives.
Who should be the saver?
Maintaining the ownership of a qualified college savings account under the parent’s name is more favorable in the financial aid process. The government assumes that parents will contribute a maximum of 5.64% of assets to education, whereas a student’s assets are assessed as high as 20%. Additionally, a 529 plan tax-free distribution used to pay for college expenses will not be part of the base-year income (such as job earnings) that may reduce financial aid eligibility for next year.
Federal Direct, need-based loans are the most common type of aid for undergraduates and come in several forms:
Direct Subsidized Loans—The government pays your fixed-rate interest while in school and for the first six months after you leave school at which point you begin repayment.
Direct Unsubsidized Loans—For both undergraduate and graduate students, these fixed-rate loans require you to pay interest at all times and begin repayment six months after leaving school.
Direct Consolidations Loans—These allow you to combine your federal student loans (with some exceptions) into one bill and monthly payment with thirty years to pay it back. Direct consolidations loans are fixed-rate and permanent (once combined, they can’t be separated), so be sure to consider all options before going this route.
Offered by state educational financing authorities, state loans are sometimes available to both in-state and out-of-state students. For instance, this could be a viable route if you are an out-of-state student attending a participating school within that state. Check to see which state loans could be available to you, as your fixed rate could be lower than your federal loan options.
These are available from banks and other private lenders and are variable-rate and unsubsidized, meaning you are responsible for paying interest immediately. Often with private loans, repayment begins while you are still in school.
Merit-based aid like scholarships (including from outside organizations), combined with need-based aid, could be the deciding factor.
Be sure that your teenager is keeping a “resume” of their accomplishments and talents. Any awards they receive and/or extracurricular activities that show they are well-rounded or highly skilled in a specific area will make them stand out from the crowd when applying.
Once it’s time to apply, don’t forget about schools across state lines. Many public colleges direct more merit-based funds to out-of-state students. If you’re stuck between making too much money for need-based aid, but not enough to cover all expenses, look to grants and scholarships. You may be surprised how much schools are willing to offer for academics, arts, and athletics; and it could be enough to make a big difference in your child’s education.
Your strategy for affording college will likely combine savings, merit- and/or need-based aid, gifts from relatives, student or parental income from a job, free money such as grants or scholarships, and, as a last resort, loans. No matter what a family’s financial situation, paying for college is best achieved with a longer-term plan and knowledge of the options.
The tax year that ends before the beginning of your student’s senior year is called the “Base Year” for financial aid purposes. To maximize financial aid opportunities, be sure to transfer assets from the student’s name to the parents’ name before the Base Year—that means before January 1 of the student’s junior year.
Sterling National Bank’s College Planning Center can help you prepare for education expenses. Find out how by contacting your relationship manager today: 855.274.2800.