Paying for College (Morningstar)

The Short Answer

Ways to Pay for College If Your 529 Isn't Enough

By Karen Wallace | 11-24-15 | 06:00 AM | Email Article

Question: The amount we've saved in our child's 529 account will likely not cover the full cost of college. What are our options? Is there an order to tap other assets that makes the most sense?

Answer: There are many considerations, and the best strategy will, of course, depend on your individual situation. In addition to taking stock of the assets your family already has available to pay the bill in various college-savings accounts (529s, Coverdells, UGMA/UTMA accounts, and so on), you'll also want to assess whether your child might qualify for scholarships, grants, and credits.

Definitely do not skip the step of filling out and submitting a Free Application for Federal Student Aid, or FAFSA; schools use the information reported on the FAFSA to determine how much aid you qualify for. Also, remember to fill it out every year you plan to attend college. Bear in mind that colleges define "aid" more broadly than you or I might. Some of this aid will need to be paid back (such as loans), and some of it will not (such as grants and scholarships).

The amount of financial aid you are eligible to receive is based on your "financial need," which is the difference between the cost of attendance (determined by each school) and the expected family contribution (a measure of the family's financial strength, calculated according to a formula established by law). So, the lower your expected family contribution and/or the higher the cost of attendance at the school, the greater your financial need.

1) Grants and Scholarships
Grants and scholarships are among the most desirable forms of financial aid and should be considered first. Grants and scholarships, also sometimes referred to as "gift aid," are essentially free money--they are financial aid that doesn't have to be repaid. Grants are often need based, while scholarships are usually merit based. Do your research to find out which grants or scholarships you might be eligible for and what their application deadlines are. (One caveat, however: Per theDepartment of Education's website, you might have to pay back part or all of a grant in the event you withdraw from school before finishing an enrollment period such as a semester.)

2) The AOTC 
If you are eligible for the American Opportunity Tax Credit (AOTC), carve out $4,000 in college expenses to be paid with cash or loans ahead of all other sources of money, advises Mark Kantrowitz, a financial-aid expert. You can then use the AOTC to offset those expenses. The AOTC isn't available to everyone: Qualified taxpayers with modified adjusted gross incomes of $80,000 or less (or $160,000 or less for joint filers) qualify for the full credit. Taxpayers earning more than this may qualify for a partial credit, but a taxpayer whose MAGI is greater than $90,000 ($180,000 for joint filers) cannot claim the credit. For more on this, click here.

The reason that AOTC-eligible families should carve out $4,000 of tuition and textbook expenses each year that will be paid for with cash or loans is because the AOTC is worth more than the tax-free 529-plan distribution. The AOTC yields a dollar-for-dollar tax credit based on the first $2,000 of tuition and textbook expenses, then $0.25 on the dollar for the next $2,000). It's also important to remember that you can't use the same qualified higher-education expenses to justify two education tax benefits. For example, you can't use a tax-free distribution from a 529 plan to pay for tuition and textbook expenses that you also want to use to justify the AOTC.

3) Federal Student Loans
As a next step, Kantrowitz recommends figuring out how much of a gap you'll have beyond need-based aid and the 529-plan money, and whether some of it can be covered with Direct Subsidized Loans or Direct Unsubsidized Loans, which have low fixed interest rates and do not require a credit check.

One of the benefits of subsidized loans is that the U.S. Department of Education pays the interest for you if you're in school at least half-time and for a limited grace period after you leave school. This makes subsidized loans a better deal for the borrower than other types of loans, where interest begins to accrue immediately. In addition, subsidized loans have low fixed interest rates--the current rates are 4.29% on a Stafford loan for an undergrad and 5% on a Perkins loan.

Another option is unsubsidized Stafford loans, which are available to all students regardless of financial need. The unsubsidized federal Stafford loan has a fixed interest rate that is among the lowest available interest rates for unsecured debt (currently 4.29% for an undergrad) that is not based on the borrower's credit, Kantrowitz points out. Though the limits are higher than with subsidized Stafford loans, there are also limits to how much you can borrow with unsubsidized Stafford loans.

4) Spend Down Certain Types of Student-Owned Assets Before 529 Assets
In terms of drawing down different types of college-savings accounts, some important considerations have to do with how different assets are "counted" when calculating the expected family contribution. If possible, you should first spend down any assets that have a bigger impact on reducing the aid a student is eligible to receive.

For instance, if you have one, UGMA and UTMA accounts should be spent down before taking a qualified distribution from a 529 plan. The reason is that UGMA/UTMA assets are student owned and reduce financial-aid eligibility by a harsher 20% of the asset value. For this reason, Kantrowitz recommends spending the assets in UGMA/UTMA accounts down to zero before taking a qualified distribution from the 529 plan. Likewise, savings accounts, real estate, mutual funds, or stocks and bonds held in the student's name can also have a bigger impact in terms of reducing the aid a student is eligible to receive.

5) Spend 529-Plan Money to Fill In Any Remaining Gaps
Assets in a 529-plan account can also reduce aid eligibility, but not to the same extent that UGMA/UTMA and other types of student-owned assets can. If the 529-plan account is owned by a dependent student or the dependent student's custodial parent, it is reported as a parent asset on the FAFSA. In a worst-case scenario, this will reduce aid eligibility by up to 5.64% of the asset value, Kantrowitz said.

6) Federal Parent PLUS Loan
Another option is to use a federal Parent PLUS loan to address any remaining gaps that can't be covered by grants and scholarships, student loans, and 529 assets, Kantrowitz says. The PLUS loan has a fixed interest rate for the life of the loan (currently 6.84%), plus a loan fee.

Unlike with student loans, the Parent PLUS loan does depend on the borrower's credit history, but the credit check may not be as stringent as with some private loans. That said, Kantrowitz points out that borrowers with excellent credit may be able to qualify for a lower interest rate on a private loan than on the federal Parent PLUS loan. (Just be aware that if you sign up for a variable-rate loan, rates really have nowhere to go but up from here.)

Kantrowitz also points out that needing to borrow a Federal PLUS loan or a private student or parent loan may be a sign of overborrowing. Although taking on debt to finance college is unavoidable in many cases, there are some important considerations. In terms of students taking on debt, an oft-cited rule of thumb is that their total education debt should be less than their expected starting annual salary--otherwise, they will have trouble paying back that loan debt. Likewise, it's a good idea for parents to be conservative about how much debt they can comfortably take on, particularly as they near retirement and may have reduced incomes and fewer resources available to pay off the loans.

Karen Wallace is a senior editor with Morningstar.com.

Beware the Wealth Killers (from Ken and Daria Dolan)

Dolans.com
Beware These 9 Wealth Killers
by Ken Dolan October 22, 2008 10:13 AM
Posted in: Family & Money

These are scary times, indeed. Even the talking heads on TV tell us that we're in uncharted territory. And based on our 20+ years of experience in the financial business, this is one of the few times that we actually agree with them!

Between economic (and natural) catastrophes...banking disasters...more and more scams…and bad news upon more bad news, it's no wonder that people are tempted to stuff their cash under their mattress!

Yes, it's been a tough year to grow your money. But to make matters even worse, there are also serious threats that can eat away at your hard-earned dollars.

As they say, "Forewarned is forearmed." If you know what threats are out there, you can take steps now to protect your money.

To that end, we've pulled together these top 9 threats to guard against AND what you must do about them. Read on...

Money Threat #1: Inflation.
Dare we say the dreaded "I" word? (May as well since we're in the thick of inflation now!)

Inflation affects more than just the cost of the products you buy – it can also affect the price of your loans since inflation generally pushes interest rates up…not to mention that it can negatively influence your investments because many companies grow more slowly during inflationary times.

Sit tight. Prices will eventually drop again – they always do. In the meantime, cut corners where you can. Save more. You should also start a "rainy day" fund, if you don't have one already. You can quickly calculate how much you need to set aside for emergencies here. (/calculators/How_Much_Do_I_Need_For_Emergencies.html)



Money Threat #2: Stock market losses.
In the midst of the banking crisis and the tumbling real estate and mortgage markets, woe is Wall Street. This turmoil in the stock market affects your retirement, your savings and your financial health as a whole.

Whatever you do, don't spend one more day invested in stocks if you're uncomfortable doing so. Rule #1 in our 10 Simple Rules of Investing (/invest_wisely/dolans_10_rules_of_investing.html) is to "Know thy sleep quotient." In a nutshell, that means reduce your risk if you're staying awake at night worrying about your investments.

Remember: There are always safer places to put your money. Just don't lose your shirt in THESE investments.

Money Threat #3: Bank problems
Many of us who never worried about the safety of our assets in a bank are now very concerned…with good reason. This whole financial crisis is FAR from over.

You can never be too cautious, so first check the safety of your bank through Veribanc (http://www.veribanc.com/ConsumerReports.php) (800/44-BANKS). They provide ratings on all U.S. federally-insured financial institutions. Another source is Weiss Ratings (http://www.weissratings.com/) , which includes a free list of the strongest- and weakest-rated banks in the nation. (You should also be aware of our 5 Warning Signs Your Bank Could Be In Trouble. (/banking/bank-failure-warning-signs.html) )

Also, make sure that your bank is FDIC insured. But don't be hasty – you need to know specifically what's covered and what's not. Find out in How to Protect Your Bank Deposits (/banking/fdic-insurance.html)

Money Threat #4: Weak dollar.
You may think that our weak dollar only affects us if we travel overseas. Not true.

It actually poses a lot of problems for our personal wealth as well. Since we don't manufacture much in the U.S. anymore, a lot of the products we purchase – from cars and wines to toys and clothes – are imported from foreign markets. A weak dollar makes them more expensive.

Also, since we're so dependent on foreign oil, a weak dollar keeps fuel costs high AND, as interest rates remain low, we don't earn as much on investments like CDs and bonds.

One solution, if you can stand the volatility and risk, is to consider a small investment in gold. (Click here for 4 ways to profit from a weak dollar. (/invest_wisely/investing_with_a_weak_dollar.html) )

Money Threat #5: The Presidential election.
We're not about to tell you who to vote for, but you need to know how Wall Street reacts when it comes to electing our highest public official.

Typically, if a Democrat is winning in the weeks leading up to an election, the stock market goes crazy and sells off in advance. It then usually rallies sometime after the new president takes his oath.

On the other hand, if a Republican is winning, the market usually rallies beforehand, then typically sells off not long after he takes office.

No matter what happens, if you plan to stay in the market (and we think it's treacherous to be there at the moment), be prepared for some short-term losses at the very least.

[Money Threat #6: Fluctuating energy prices.
Sure, gas prices are dropping...but for how long? (As long as we're importing oil, the risk of skyrocketing prices will always be there!)

Higher energy prices affect more than just the prices at the pump. They often lead to higher prices not only for essential goods such as food, but for just about anything that needs to be transported by truck or air.

They have a profound impact on your everyday products, not to mention the economy at large. And historically speaking, recessions often follow oil price surges.

What to do? The key is conservation. Slow down the demand. Carpool to work or take public transportation (or work from home a few days a week if your company allows it). You can find four other ways to save gas here (/save_more/gallery/high-gas-prices.html) .

Money Threat #7: Excessive household debt.
In The Millionaire Next Door, authors Thomas Stanley and William Danko noted that most self-made millionaires save or invest 15 to 20 percent of their income. The other side of the coin is that average Americans spend 18% of their disposable income paying off their debts. What a nightmare!

The obvious lesson learned is you'll never become a millionaire when you have a desk full of loans and credit card bills to pay each month. Find out how to become completely debt-free in 10 simple steps. (/debt_management/gallery/living-debt-free.html)

Money Threat #8: Being under-insured.
It's estimated that two out of three homes nationwide are under-insured. That's a scary statistic – especially in light of all of the natural disasters over the last few months.

Here's another frightening fact: Many homeowners with older insurance policies don't know that since the late 1990s they've had to specifically request a "guaranteed replacement" policy. Meaning if they don't, their policy may set pay-out limits that may not be enough to cover the cost to repair or rebuild their home. In the unlikely event of a disaster, the potential financial loss is staggering.

Eliminate your risk. Check your homeowner's policy. Then get our checklist to be sure you're prepared, just in case: What to Do When Disaster Strikes (/family_money/gallery/what-to-do-when-disaster-strikes.html) .

Money Threat #9: Money scams
If you receive an offer in the mail (or from a telemarketer) that sounds too good to be true, either look at it more closely…or, even better, pitch it.

One piece of mail you're much better off ignoring is a letter promising "mortgage rescue assistance." It has 'scam' written all over it. Remember, you do not and should not pay money to ANYONE to stay out of foreclosure. If you need help, consult a real estate attorney or call HOPE NOW at 1-800-995-HOPE

And…if you have a child applying to colleges this year, beware the scholarship scams, which "guarantee" a scholarship for a $50 to $1,500 fee. Ha!

Don't forget to forward this information to a friend who may need it!



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