Paying for a Grandchild’s College
It’s the season of graduations! This means heading to your child or grandchild’s high school or college to watch them cross the stage beaming with accomplishment. If it’s high school graduation, attendance at a university or technical college may be on the horizon, and for many planning to attend college, it means getting ready to dole out the first round of tuition. That can be stressful for a young student and even more stressful for the parent. However, these days it’s smart to plan ahead and start building a college fund early for paying for a grandchild’s college.
For you grandparents who want to help your grandchild pay for their college, there are some ways you can contribute. But you have to consider taxes! Let’s go through some valuable ways you can help your grandchild pay for their college tuition.
529 Savings Plan
Contrary to other investment and retirement accounts and plans, 529 savings plans operate on a state basis. You aren’t locked into contributing to your state’s offering, instead you’re free to choose any plan you would like, and it’s smart to compare your options.
529 savings plans are a tax-efficient means to help paying for a grandchild’s college costs. As long as withdrawals are used for qualified expenses such as tuition, textbooks, and room and board, they aren’t taxed, and investment earnings grow tax-free. However, if you make a withdrawal for a non-qualified expense you’ll be paying income taxes on that withdrawal plus a 10% penalty on the earnings.
Some 529 savings plans offer a tax break on your contributions in addition to the tax-free growth. Some states don’t even require you to invest in-state to claim a deduction. For example, contributions to any state-sponsored 529 plans are deductible from Kansas taxable income up to $3,000 per beneficiary annually (or $6,000 per beneficiary for a married couple filing jointly).
529 Plan Contribution Limits
529 plans have contribution limits, but they are high as most plans allow $300,000 or more per beneficiary. Although you’re able to contribute to the plans regardless your income level, your investments are limited to that of the plan’s and can only be changed once annually. Note that contributions to a 529 savings plan are subject to gift tax when they exceed the annual limit of $15,000 for individual gifts or $30,000 for joint gifts made by a married couple as stated in the guidelines on gift exclusions from the IRS.
There is impact on financial aid opportunities for students if the timing of withdrawals from a 529 savings plan isn’t proper. Money in the plan isn’t seen as an asset on the FAFSA (Free Application for Federal Student Aid). Schools often use the FAFSA to determine what types of financial aid awards to extend to a student. However, withdrawals used for college expenses are seen as income for the student on the next year’s FAFSA. That income can reduce financial aid for the following years.
Filing the FAFSA First
An option to circumvent this issue is to hold off on withdrawals from the 529 plan until the final FAFSA has been filed, or the student’s junior year if they’re on track to graduate in four years. In this case, since there are no more FAFSAs to file, it won’t affect financial aid. If the student needs withdrawals earlier, you can switch the owner to the student’s parents. It’s rare a 529 plan owned by a parent is counted as an asset in the FAFSA formula. Distributions from a 529 plan set up this way won’t count as income. It is important to note however that not all plans allow you to transfer accounts.
Overall, 529 savings plans are a great way to start the process of paying for a grandchild’s college in the future in a way that shelters each party from unfortunate taxation
Gifting or Paying for Your Grandchild’s College
If you want to avoid paying a gift tax to Uncle Sam, you can give your grandchild up to $15,000 a year without the worry of paying a gift tax mentioned earlier and if you are grandparents who are married, your joint gift can be up to $30,000. While at some schools this may not be enough to cover each year’s tuition, it’s definitely enough to ease the burden for your student grandchild.
Another option is to just pay the tuition bill. Paying the tuition bill directly is another way to avoid taxes and you won’t have to file a gift tax return regardless of whether it exceeds the annual limit. However, the payment needs to go directly to the institution and not go to the student or student’s parents. The gift tax exemption only applies to tuition, other expenses, like room and board, are still subject to gift tax limitations.
One consideration is that gifts to the student and paying the tuition directly are counted as tax-free income to the student and can affect the amount of aid they can receive on their FAFSA. When the FAFSA is needed it might be better to avoid these methods of paying for a grandchild’s college. Instead, opt for another option such as helping with the repayment of their student loans.
Help Paying Off Student Loans
There are two ways to approach helping your student pay off their student loans. One is cosigning a private loan with your grandchild to earn them a lower interest rate, but this leaves you vulnerable as the responsible party for the debt if your grandchild doesn’t keep up on their payments or defaults. That could lead to debt collectors coming after you, putting your retirement savings at risk.
The more responsible approach is to recommend your grandchild uses federal loans which have more flexible repayment options than private loans and are usually easier to get. Then, once your student has graduated, help them repay their loans. This doesn’t affect your grandchild’s ability to get federal aid, but loan payments are a taxable gift. That means you need to stay within the annual limits mentioned earlier of $15,000 per year, ($30,000 for joint gifts) when using this method for paying for a grandchild’s college.
Giving the Gift of Higher Education
It’s hard to imagine that in the last 30 years, the average college tuition for a public four-year institution has risen by 213%, according to CNBC. The burden of paying for college for an 18-year-old fresh out of high school has never been worse. So, giving the gift of higher education is even more powerful than ever before. While college isn’t for everyone, for some it’s invaluable!
So, You Want to Pay for Your Grandchild’s College?
If you want to ease your grandkid’s future financial burdens, then paying for your grandchild’s college is a great start, and we’re here to help you achieve that goal. Modern Wealth Management has a different outlook on life in retirement. We aren’t only here as an investment firm, we are here to give you and your loved ones the future you’ve been dreaming of and working toward your entire life. We want to bring that dream to fruition by planning your financial future and attaining and exceeding those goals. In other words, we want you to live your one best financial life, where the finance doesn’t hinder you and your family’s future, including your grandchild’s dream of graduating from college.
If planning like this sounds like something you would like to try, give us a call at 913-393-1000 or schedule a complimentary consultation below.
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The views expressed represent the opinion of Modern Wealth Management an SEC Registered Investment Advisor. Information provided is for illustrative purposes only and does not constitute investment, tax, or legal advice. Modern Wealth Management does not accept any liability for the use of the information discussed. Consult with a qualified financial, legal, or tax professional prior to taking any action.
https://www.nerdwallet.com/blog/investing/529-plans-list/
https://www.cnbc.com/2017/11/29/how-much-college-tuition-has-increased-from-1988-to-2018.html