529 Savings Plans, Trick
or Treat?
By Reecy Aresty
College Admissions/Financial Aid Expert
and Author
Financial aid offices
across the county must be in a state of euphoria now that Congress has
made the 529 tax exemption permanent. Adding to their joy is the
increasing number of states making contributions to 529 accounts state tax
deductible. Sadly, this will only encourage more unsuspecting families to
set up these plans which will take most of them down a path paved with
financial hazards. Ultimately, most families who open one are inviting
devastating consequences when the financial aid process begins and
withdrawals are taken.
Colleges are likely to
count their blessings for every needy student who has a 529. Such plans
make it possible for the school to reduce some financial aid awards dollar for
dollar thereby enriching their billion dollar endowment funds.
In the financial aid
formulas, students have no asset protection allowance (APA). The sad
result is, each year students lose 20 cents in financial aid for every
dollar they have in cash, checking, savings, UGMA and/or UTMA accts.,
stocks, bonds, savings bonds, mutual funds, and the like.
Parents fare better as
their assets are assessed at only 5.64% per year over their allowance. A
two parent family for example, with an older parent of 48, has an APA of
$45,000, while a single parent of 45, only has $19,700.
It gets even worse for
families who are eligible for substantial need-based financial aid. Colleges deem
this money a resource and apply the asset assessment. Next, they reduce
some of their own share of the student’s aid, dollar for dollar! The
assessment is avoided when the owner of the account is not part of the
family household, i.e. a grandparent, but the college’s aid is still
reduced.
Unfortunately, tens of
millions of dollars per year are unnecessarily wasted by college families
who are unaware of the consequences when setting up 529 Savings Plans. In
fact, numerous brokerage firms have been sued and/or suspended for
misrepresenting the so-called benefits of 529 accounts.
Solution
Once a family becomes
aware they will qualify for need-based financial aid, and that some or
possibly most of
their 529 monies are at risk of being assessed and worse, it is not too
late and very easy to liquidate the account. The owner must contact the
company managing their account and indicate they want a “non-qualified”
(taxable) distribution. They will receive a redemption form and their
check will follow shortly after the form is submitted.
Of course, liquidation
is not without consequence either. All gains are subject not only to a 10%
penalty tax, but also the applicable income tax based on the account
owner’s tax bracket. Nonetheless, it is certainly the far lesser evil.
Example
A family who invested
$40,000 and had a $10,000 gain would receive a check upon liquidation for
$50,000. Assuming a 20% tax bracket, the $10,000 gain is subject to a
$1,000 penalty tax, plus a $2,000 income tax. While many families have as
much as $100,000 and more, the net result here is $47,000 that would avoid
a maximum of $10,600 ($47,000 x 5.64% x 4) in assessments. If the money
were legally repositioned into financial vehicles not included in the
financial aid calculations, some or all of it would still be there at
graduation time!
Here are two actual
examples of what can be accomplished when assets are legally repositioned:
$15,252 Princeton
University Tuition
$18,030 Financial Aid
Received
$ 2,000 University of
Tampa aid eligibility
$28,215 Aid increased
after repositioning
When confronted with
these facts, financial aid officers nationwide have sidestepped and
smoke-screened the issue with comments such as, “Depending upon the value,
there will be annual distributions to pay for tuition and fees,” or, “Our
calculations may vary from year to year,” and this most disturbing remark
originating from a prestigious New England school, “Financial aid is not
the issue here. Paying for the student’s education is.”
Since the majority of
American families can no longer afford four years of tuition and related
expenses without financial aid, it most certainly is the issue!
Camouflaging this fact is unconscionable, but par for the course when
playing the game that today’s college financial aid process has become.
The following
illustrates exactly how 529 Savings Plans cause families to lose thousands
in financial aid.
In a 2 parent family,
let’s assume: an older parent of 44; 1 child, 17; AGI of $68,900; taxes
paid $5,500; parent assets of $10,000; asset protection allowance of
$42,100; student assets of $124:
Scenario A: $0 in
a 529 Savings Plan
1. Cost of Attendance:
$45,000 (COA = tuition, fees, room & board, books and related expenses)
2. Expected Family
Contribution: $10,000 (EFC = the minimum the fed. gov’t. determines a
family will pay at any college)
3. Financial Need (FN) $35,000 ($45,000 - $10,000)
(FN = the maximum amount
of aid a family will qualify for)
4. The student
qualifies for the following aid:
(A) $ 3,500 Stafford
Loan
(B) $ 4,000 Perkins Loan
(C) $ 2,500 Federal
work-study award
(D) $ 3,000 State
grants, etc.
(E) $ 2,000 Private
scholarship
(F) $20,000 College
scholarships, grants, tuition waivers, etc.
(G) $35,000 Total
The student will qualify
for a maximum of $20,000/yr in financial aid from the college. However,
the private scholarship is a bonus for the school, not the student. It
enables them to reduce their aid dollar for dollar, because if (E) were
$0, (F) would be $22,000.
Scenario B:
$50,000 in a 529 Savings Plan
1. $45,000 COA less
2. $11,000 EFC =
3. $34,000 FN
4. The student qualifies
for the following aid:
(A) $ 3,500 Stafford
Loan
(B) $ 4,000 Perkins Loan
(C) $ 2,500 Federal
work-study award
(D) $ 3,000 State
grants, etc.
(E) $21,000 College
scholarships, grants, tuition waivers, etc.
(F) $34,000 Total
With $50,000 in the 529
Savings Plan, the family will most likely take a “qualified” distribution
of $12,500/yr for 4 years; $11,000 of which will pay their EFC. The
college saves and the family will lose $1,500/yr in financial aid for 4
years. The college’s contribution (E), will now be reduced to $19,500
Scenario
C: $100,000 in a 529 Savings Plan
1. $45,000 COA less
2. $12,800 EFC
=
3. $32,200 FN
4. The student qualifies
for the following aid:
(A) $ 3,500 Stafford
Loan
(B) $ 4,000 Perkins Loan
(C) $ 2,500 Federal
work-study award
(D) $
3,000 State
grants, etc.
(E) $19,200 College
scholarships, grants, tuition waivers, etc.
(F) $32,200 Total
With $100,000 in the 529
Savings Plan, the family will most likely take a “qualified” distribution
of $25,000/yr for 4 years; $12,800 to pay their EFC.
The college will save
and the family will lose $12,200/yr in financial aid because the $12,200 of aid the college would have offered was replaced by the 529
distribution. The college’s contribution (E), will be reduced to $7,000.
If the money were in a
financial vehicle not included in the financial aid calculations, the EFC
would be reduced to $10,000 (Scenario A), and they would qualify for
$22,000/yr for 4 years in financial aid from the college.
Summary
In the above Scenario C,
a family with a modest EFC and a substantial 529 balance will lose the
most. The break even point is when 529 annual distributions equal the EFC,
and the account has a zero balance at the end of 4 years – an unlikely
occurrence. There are a myriad of scenarios that can be played out here,
but as always, it’s the “neediest” of families who lose the most.
Do not fall for the 529
trick this Halloween, or any other time of the year. 529 Savings Plans
must be purchased with extreme caution so they don’t become costly! In order to win
the college funding game, which begins all over again every year, a family
must have the most up to date information, precise timing and
persistency. And families should never lose sight of the fact that all
the financial aid in the world is useless without that coveted admission
ticket!
About The Author:
Reecy Aresty has been a financial advisor since 1977, and
is founder and president of College Assistance, Inc., located in Boca
Raton, Florida. He is the author of the critically-acclaimed, How To Pay For College
Without Going Broke, an invaluable, parent/student
manual. Arguably the most revealing book ever
written on college admissions and financial aid, it is the only book of its
kind also available in Spanish.
Reecy has been
interviewed by financial experts on radio and television, and by many of
the nation's most respected publications including Money Magazine, US
News & World Report, Bloomberg News, Scripps Howard,
The Washington Post, financial icon Terry Savage for the
Chicago Sun-Times, Consumers Digest, The Education Times and AOL. An Internet search for
Reecy Aresty will result in thousands of links to sites all over the
world that feature his articles, advice and methods. Recently, he created
the College Information Network™,
which includes The High School Blog, The College Blog, PayLess For
College and The Way To College.
For almost three
decades, Reecy has helped thousands of families send their kids to the
college of their choice for less than they ever dreamed possible.
The critics agree. The way to college is Reecy Aresty's How To Pay For
College Without Going Broke. It reveals the trade secrets and insider
information our colleges, universities and the federal government don't want you to know. For
further information on the best college funding book on the market today,
please use the links provided. For more information on admissions and
financial aid - Ask Reecy!
