Forbes Best Colleges List for 2015 was just published and as usual it is topped by the most selective, most prestigious and most expensive colleges in the land. What it takes to gain admission to one of Forbes Best Colleges is the secret sauce that all families would pay dearly to discover, but if your child does get in you will pay dearly for sure, about $265,000 on average over four years. The secret to getting financial aid at these top colleges is probably right in your house.
Some colleges count equity in the parent's primary home against a child for aid eligibility purposes, and some do not. Some will base how much of parents' home equity they will count against a child based on the adjusted gross income (AGI) of the parents, typically 1.2 times AGI or 2.5 times AGI.
If your family has $300,000 of home equity, one college will expect you to contribute 5% of that amount ($15,000) each year toward the cost of your child's education based on your home equity alone. Another college may not count your home equity at all, a $0 contribution each year based on your home. If you make $150,000, 1.2 times that income is $180,000 of home equity a college will count at 5%, for a contribution of $9,000 a year from your home equity, and with 2.5 times $150,000 equaling $375,000, which is higher than the $300,000 in home equity you have, this college will expect you to contribute 5% of $300,000, or $15,000 a year.
So you see, the secret to more college financial aid among Forbes Best Colleges is likely in your house. It could be the difference between $60,000 over four years based on our simple example above, and that is about the cost of one year of college.
For more on how assets hurt college aid eligibility, please read on.
Two College Aid Forms: The FAFSA And CSS Profile
The process of applying for need-based financial aid for college begins by students and parents completing one or two financial aid forms, the FAFSA (Free Application for Federal Student Aid) and/or the CSS Profile. Any college or university that awards federal student aid must require that students complete the FAFSA in order to determine eligibility for federal aid (it works for most state aid too). Most colleges and universities nationwide use the FAFSA as their sole application for need-based financial aid. Students applying for aid at those colleges only need to complete the FAFSA. However, there are about 300 colleges which require that the CSS Profile be completed in addition to the FAFSA. Those colleges use the CSS profile to assess the student’s eligibility for the their own institutional aid dollars.
Typically, “Profile” colleges are very selective private colleges, including the Ivies, but the University of Michigan at Ann Arbor, Georgia Institute of Technology and the University of North Carolina at Chapel Hill are examples of flagship state universities that require the Profile, not just the FAFSA.
There is also a group of 26 colleges that make up what is known as the 568 Presidents’ Group, which was formed by the presidents of those institutions for the purpose of assessing students’ ability to pay for college using a “consensus” methodology. The 568 Presidents’ Group schools also require students to complete the CSS Profile, but they treat students’ assets and parents’ home equity different (more favorable to families) than the institutional methodology does. Thus, there are two financial aid forms but three methodologies of calculating a student’s expected family contribution (EFC).
Three College Aid Formulas
Need-based aid eligibility is based on the formula (Cost of attendance – Expected Family Contribution (EFC) = Need). Expected family contribution (EFC) is the minimum amount the family is expected to contribute toward the cost of college, and is calculated using three different methods: Federal Methodology (FM), Institutional Methodology (IM) and Consensus Methodology (CM). All three EFC calculations are based on the income and assets of the parents and student as reported on the two financial aid forms, the FAFSA (FM) and the CSS Profile (IM and CM).
Which Assets Count
Retirement assets such as 401k, 403b, IRAs, SEP, SIMPLE, Keogh, profit sharing, pensions and Roth IRAs are not included in the calculation of EFC under any of the three EFC methodologies. Assets that aren’t in retirement accounts --- balances in checking, savings, CDs, brokerage accounts, money market, investment real estate, stocks, bonds, mutual funds, ETFs, commodities and 529 college savings and prepaid plans---do get included in the EFC formulas.Trust funds must be reported regardless of whether or not the funds are currently available to you or your child. On the FAFSA, if only interest or principal will be available, the present value should be calculated by the trust officer and reported accordingly.
Parents’ total reportable assets will vary depending upon the EFC methodology, and from the reportable asset value a savings (emergency reserve) allowance of about $10,000 to $40,000 is subtracted to arrive at an available asset value. Parents are expected to use up to 5.64% (Federal) and 5% (Institutional and Consensus), of those available assets each year on college. Family controlled small businesses with fewer than 100 full-time employees, home equity and non-qualified annuities are not counted in the FM, but they are in the IM and CM, although, under the CM home equity is capped at 1.2 times the parent’s adjusted gross income.
Retirement assets do not get counted, but your prior year's contributions to qualified retirement accounts do get counted as untaxed income, and are added back to your adjusted gross income in the income portion of the aid formula. Life insurance cash values are not counted under any of the formulas, but a few highly selective colleges will ask about policy cash values in their supplemental questions on the CSS Profile. Personal assets like cars, clothes and household items do not count under any of the formulas, but collectibles do.
You Decide: Is a well-stocked wine cellar considered a "collectible" or a savvy liquid asset with subtle notes of financial aid?
Rental Properties
Rental properties are a popular tax and investment strategy among parents, but they do not qualify as a family controlled small business asset that can be excluded from the FAFSA. To be considered a business you must be providing a service such as laundry or cleaning. Don't make the mistake of thinking that you can just throw your rental properties in an LLC and exclude the value as a small business on the FAFSA. Moreover, if your child attends a college that requires the CSS Profile in addition to the FAFSA, there is no exclusion for small business assets on the Profile, so the rental will be counted on the CSS Profile anyway.
Students must report the same types of assets as parents, but students do not have a savings allowance, so 100% of the value of student-owned assets gets counted. Student-owned assets are counted at a rate of 20% (FM), 25% (IM) and 5% (CM), but under the FM, 529 college savings accounts and Coverdell Education Savings Accounts (ESAs) are counted as parent’s assets (5.64%) even though they are owned by the student.
Parent Assets: Do The Math
If there is $25,000 in reportable assets that you own, and your asset protection allowance is $35,000, then there will be no contribution expected from the assets because the total reportable assets do not exceed the asset protection allowance. If you have $200,000 in reportable assets, you would be expected to make a 5.64% contribution from $165,000 of those assets ($200,000 - $35,000 =$165,000 times 5.64% = $9,306 each year).
Child Assets: Do The Math
If your child has $25,000 in savings account, the child will be expected to contribute 20% of the asset ($5,000) each year toward the cost of college under the federal methodology, 25% under the IM ($6,250) and only 5% under the CM ($1,250). If your child owns a 529 college account of Coverdell ESA the aid treatment is more favorable under the federal calculation. The same $25,000 in a 529 account will only be assessed at a maximum of 5.64%, and sometimes it may not be assessed at all.
Legislation was passed several years ago that changed the treatment of student-owned 529 and ESA assets for federal financial aid purposes. Now, under the federal need analysis formula only (not the IM or CM), 529 and ESA assets owned by students are considered assets of the parent for federal aid purposes, therefore they get more favorable aid treatment than other assets like savings accounts, mutual funds, stocks and bonds. So, for federal aid purposes (i.e. Pell grants, Subsidized Stafford loans, etc), if money is saved for college in 529 plans and ESAs in the child’s name, it has the same financial aid impact as saving in parents’ names. Remember, parents get an asset protection allowance. So if parental assets + student 529 assets combined are less than the asset protection allowance, the child's 529 assets will not be counted at all.
Saving In Your Child's Name Isn't Always Bad
Based on your income alone, if your child's EFC is high enough to prevent him from qualifying for need-based financial aid, then it doesn’t matter if your child has a pile of assets in his name or not. In fact, in some cases it can be a tax benefit to shift appreciated assets to your child, even under the so-called kiddie tax rules. The reason is so you can implement a variety of tax-saving tactics that employ the use of the standard deduction, personal exemption and the $2,500 American Opportunity Tax Credit on your child’s tax return during the college years, and minimize or eliminate the federal tax your child will owe. You'll pay less tax this way than if you sell appreciated assets in your tax bracket, even with the kiddie tax.
I wrote about this in a previous post, College Tax Strategy: Wipe Out $25,000 In Capital Gains Per Year. Remember, before you pay the cost of college you have to pay taxes first, so reduce the tax cost of college reduces the overall cost of college. It is what I call “tax aid.”
