Financial Aid: Know the Rules of the Game

You would never jump into a game and wager thousands of dollars without first knowing the rules.  And yet, every year many parents do just that as they embark on the process of seeking financial aid for college costs.  The truth is if more parents understood how the information on the Free Application for Federal Student Aid (FAFSA) is analyzed, they would take steps to place themselves in the most favorable light.  Strategic positioning can really pay off if you know how the game is played.  Here’s what you need to know:

1. How your data will be assessed:  The formula FAFSA uses to determine the Expected Family Contribution (EFC) considers the parent’s income, savings and investment assets (excluding retirement accounts and the primary residence), as well as the student’s assets and income.  On average, parents are expected to contribute about 5.6% of their assets and between 22% and 47% of their income (with a $20,000-$60,000 allowance based on their age) towards college costs.  Students are expected to contribute roughly 20% of their assets and 50% of their income (with a $3,000 allowance) towards the tuition bill.  Switching assets into a child’s name would not be a helpful strategy.  If your child is employed, consider opening a Roth IRA, as retirement assets are not considered assets.
2. What time fame you are working with:  The FAFSA form is submitted during the student’s senior year in high school, based on data from the previous tax year (i.e., January 1 of the student’s junior year through December 31 of senior year), also called the Base Year.  Strategies that can be employed to reduce income or assets before the assessment period could prove very beneficial (e.g., sell non-retirement assets before the Base Year and use this money to fund IRA or Roth IRA accounts;  speak with your employer about receiving your bonus prior to the Base Year, or delay the bonus until the following year).  In addition, avoid liquidating any investment assets during the Base Year, as that inflow of cash would be considered as income.
3. What counts against you:  Non-retirement assets are considered available funds, even though you may be carrying high credit card debt.  Prior to January 1 of your child’s junior year, consider taking some of your non-retirement savings or investments and using them toward reducing or eliminating this debt.
4. What works in your favor: Roth IRAs, IRAs, employer-sponsored retirement accounts, Coverdell accounts, 529 plans, annuities, or the cash value of life insurance policies are not considered as assets for the purposes of FAFSA.  Prior to the Base Year, consider moving non-retirement assets (which FAFSA does count as assets) into one or more of these types of accounts.   

Remember, if your child is looking at more elite, private schools, the CSS form will need to be completed as well.  This formula assesses parents and students differently, and requires more of a contribution from both the parents and student.

After you submit the FAFSA form, the matter is out of your hands.  But, what you do beforehand, when the matter is in your hands, can be critical to the outcome.  Being aware of what you are up against may change your approach to the game and, hopefully, with a little planning, may help reduce the tuition bills.