Sometimes, how you spend can be almost as important as how you save. One
important piece of the paying for college puzzle is financial aid. While you
may not believe that you will qualify for financial aid, 60% of students at
public four-year colleges and universities and 75% of students at private
four-year colleges and universities do receive some form of financial aid.
Even if you don’t qualify for aid in the first years of college, spending
down assets in a strategic fashion can increase the likelihood of future aid
and create flexibility for future students.
Financial aid exists to help cover the difference between the cost of
attending college and the amount families are expected to cover. The
Expected Family Contribution (EFC) is the amount that whomever is giving the
aid has determined your family is able to contribute toward the cost of
college. To determine a student’s EFC, the federal government, and colleges
that use the federal method, use formulas that assess the student’s and
his/her parents’ assets, income and family size. Knowing how these assets
fit into the EFC calculation can help determine how to spend them. When
making this decision, always consult a qualified financial professional.
Using the federal method, 5.6% of assets held in a parent’s name will be
considered as part of the EFC. 35% of assets held in the student’s name will
be included in the EFC. The EFC is recalculated each year when the student
applies for aid. Therefore, if you spend assets wisely, you may be eligible
for a greater amount of aid each year when your student reapplies.
Where to Begin
For most families, it makes sense to spend assets that are in the student’s
name first. Examples of student-held assets include Coverdell Education
Savings Accounts (formerly, Education IRAs), 529 Prepaid Tuition Plans,
assets in a student’s UGMA/UTMA or personal taxable account.
When using the federal method to calculate eligibility, assets in a 529
Prepaid Tuition Plan are deemed 100% available to pay for college expenses.
This means that you must spend all of these assets before qualifying for any
need-based aid. It usually makes sense to spend assets in these accounts
early in a student’s education. Additionally, these assets may be
transferred to another family member in many situations. Check the details
of your plan.
Assets in a Coverdell can be spent before a student even begins college (or
applies for aid). The assets could pay for high school-related expenses or
to purchase a computer or books and supplies for college. Any remaining
assets in a Coverdell will be treated like other student-held assets – 35%
will be considered part of the EFC. The same strategies apply to assets in a
UGMA/UTMA or student-owned taxable account.
For many families, it is wise to spend assets in a 529 Savings Plan after
exhausting assets held in the student’s name. These assets remain in the
account owner’s name. For parents, this means only 5.6% of assets in a 529
Savings Plan are considered part of the EFC.
Be sure to discuss with a trusted financial advisor how your savings may
impact a student’s eligibility for financial aid and how spending these
assets affects your overall financial plan.
C. David Petrucci, CFP®, is an Associate Vice-President-Investments and
Wealth Management Specialist with Legg Mason Wood Walker, Inc., a
diversified securities brokerage and financial services firm that is a
member of the New York Stock Exchange, Inc. and SIPC.