Apart from your available assets, the need analysis company will also require the information about your net assets. The standardized financial aid form combines the sections of assets and liabilities into one, by subtracting the liabilities from your assets. This value is called net assets. In this section we will discuss about how to make your asset look as small as possible:
WHAT COUNTS AS AN ASSET?
There are many items that don’t directly appear on your income tax return, but the colleges have got their own way of finding them. These items include cash, checking and savings accounts, money market accounts, CDs, U.S Savings Bonds, Educational IRAs, stocks, other bonds, mutual funds, trusts, ownership interest in business, and the current market value of real estate holdings other than your home. The 1040 form has sections on capital gains, capital loses, interest, dividends, and itemized deductions under schedule A. All these sections have information about your income and/or tax deductions.
Cars are excluded from the assets, and the assets in insurance policies and retirement provisions are not assessed in the aid formulas.
The federal methodology and most of the state schools don’t include the value of your home in the assets. On the other hand, most of the private colleges those who ask you to file the PROFILE form, and/or ask the value of your home in their own form, are likely to include the value of home in the assets.
Beginning with the year 2003-2004, a group of 2 selective private colleges and universities decided to put a cap on the value of the home assessed. They decided that the net worth of the home will be considered to be no more than 2.4 times of the total family income. Following the trend, some other colleges also came up with caps on the assessable value of the home.
The value of vacation homes and farms are not considered in assets under the federal methodology, but the institutional methodology includes the value of farm in the assets.
Owning a house does not affect the aid. Though in some case, some colleges take the home equity into consideration to decide their own aid programs, but the federal methodology does not take it into account.
WHAT COUNTS AS DEBT?
Any debt taken against the assets that are listed on the aid forms are considered by the financial aid formulas as Debts. If you have debts on yourself, like the unsecured loans, personal loans, or educational loans like Stafford or PLUS loans for college, or consumer debt such as outstanding credit card balances, or auto loans, then they cannot be subtracted from the assets under the aid formulas.
One should try to minimize the kind of debts listed above
- Appearance of CASH, CHECKING ACCOUNTS and SAVINGS ACCOUNTS:
If you were planning on making some huge expenses in the near future, then you should consider doing it now, and try to pay in cash for them. The money was going to be spent anyway. But, spending the money now will decrease the appearance of available cash assets at present. The need analysis form seeks information about your available cash assets, and the money in the accounts on the day you fill the form.
- PLATIC DEBT:
Debts, like the credit card debts are known as plastic debt. For the colleges, the plastic debt does not exist. If you have got any plastic debt, then you should consider paying it off now, as it will positively affect your financial aid eligibility. Paying off the plastic debt can also be beneficial for you from the tax point of view.
- TAX BILL:
- PASSBOOK LOANS: (exceptional case)
These are the kind of security for a loan, where you use the money from your savings account. This is considered as a legal debt against your asset, and so you should include your savings account and the debt against it under the “investments” section on the FAFSA and PROFILE forms.
- IRAs, Keoghs, 401 (k)s, 403 (b)s:
As we have discussed earlier, the contributions made to these retirement plans are deductible according to the IRS, but the financial aid formula counts these contributions as regular expenses. This does not mean that investment in the retirement plans during the base income years are wasted. It helps in avoiding this money to be counted twice as an asset, which would have happened if this money was present in the bank account. Further, these contributions will be counted under untaxed income.
Any money contributed to the retirement plan will shield that money from the FAO’s reach.
One should consider making contribution to the retirement plans as early in the year as possible. If you wait to do this till you do your tax, then you won’t be able to shield that money from the FAO.
One can make contribution into the retirement plans for two years at once. If you can do this, you will be able to save another good amount, and your aid eligibility will also automatically increase.
The timing of contributions to the retirement plans matters a lot. If you contribute more to the retirement plans during the years prior to the base income year, then you would be giving the same amount of tax each year, but your asset will show less, and so there is a change of increase in your financial aid.
One should focus more on qualifying for the Simplified Needs Test and the Automatic Zero EFC, than on making contributions to the retirement plan before the base income years. During the base income years, if your contributions to the retirement plan decreases your income to below $50,000, then doing this can be very beneficial for you.
There are some colleges that ask about the money in the parents’ retirement provisions or insurance policies. Either you can opt for ignoring that college completely, or you will have to provide the information gracefully. Though this does not affect the EFC much.
You should try to not to have any withheld tax, when you fill up the need analysis form. Sending the returns with a check before the deadline is always good. Any early money received by the IRS is always pleasing. This may prevent the extra interest that the money would have earned from the bank, but it will enhance your aid eligibility.
- HOME EQUITY and REAL ESTATE STRATERGIES:
As we have mentioned earlier, some college require the information about the value of your home equity to decide their own aids. While giving out this information, one should try to be as accurate as possible. They want to know, at what price you would sell your house if it was the call of the hour i.e. what is the present value of your house. While deciding the value, you should keep in mind that there will be other costs involved in it, like: painting and remodelling, possible early payment penalties for liquidating your mortgage, real estate agent’s commission.
The Home equity is calculated by subtracting the debt against the house (mortgages, home equity loan balances, debts secured by the house), from the present market value of the house. The value of home equity is more important than the real estate values.
Parents must remember to list down any cost related to the building and maintenance of the home, may it be money borrowed from parents for down payments, or investment in the home improvement plan, or borrowing against a home equity loan line of credit, or cost of sewer assessment. All of these are legitimate debt against the value of your real estate.
- The HOME EQUITY LOAN:
The loan taken against the equity of your home is called Home Equity loans. This loan is considered as one of the better ways of paying for the college. The good thing about taking this loan is that, you can draw checks against the line of credit, up to the full value of the loan, but you don’t have to pay the interest until you write a check, and the interest is charged only on the borrowed amount.
The interest rates for the home equity loan are very low, and you may get to avail tax deductions for the interest you pay. Further taking this loan against your equity reduces the actual price of the equity and your net assets, and your aid eligibility increases.
You can consider paying some other large debts using the line of credit of the home equity loan. The interest rates will be lower, and it will also help you make the assets look smaller to the FAO.
Taking loan against the home equity is surely going to fetch you a tax deduction and a low interest rate. Whether you will get financial aid benefits or not, depends on the college’s decision of assessing the value of your primary residence- and if they do, will they assess it at full market value or at a lower rate.
The federal methodology does not allow you to avail more aid in favour of the home equity loan. Bad luck! if your college follows the federal methodology. If you have got more than one house, then you should consider taking the loan out of the other estate in this case.
If your college follows the institutional methodologies and caps the home value, then the amount of financial aid you get will depend upon the value of your home equity. If you have more than one house, and if the equity value of your primary home is zero, then you should borrow money against the other home, or other real estate, or their stock portfolio. The college provides aid solely against the home equity.
Taking a second mortgage instead of the home equity loan can prove to be a deal of loss. When you take a second mortgage and keep it in the bank to use it to pay for your child’s college education, then you will have to pay interest on the mortgage, and simultaneously you will be earning interest on the amount kept in the bank. But the interest you have to pay will be less than the interest you will be earning. And further, the interest you earn will be counted as your income, but the interest you pay for the mortgage will not be counted as your expense. The advantage in home equity loan is that you will have to pay interest only when you withdraw money in your need.
If your college does not take the home equity into consideration, then taking a second mortgage can be a very bad decision, because it will be an asset which the college cannot touch, and it will increase your EFC by several thousand dollars.
Buy a new house only if you were planning to do so, and if it means that the unprotected asset gets converted into an asset that could not be touched. If this is not the condition, then buying another house cannot assure the increase in aid, because you will be using the amount in your account for down payment of the house. According to the aid formulas for the mortgage payments, your net assets will remain the same, and the monthly housing costs will also not fetch your credit
- DEALING WITH THE TRUSTS:
Any trust in the child’s name is considered as a child’s asset, even if he cannot touch the principal amount. The FAO assumes that the total amount in the trust is available, and they count 20% of the amount as the assessable amount. This prevents you from getting the aid, and you will also have to arrange to pay for the 20% of your own, as the principal amount cannot be touched.
You should not put money in the trust in the name of the child. If you can’t avoid this, then you should make the principal money assessable.
If any third party wants to pay for your child’s education, then he/she should write the check directly to the college. This can save him/her the gift tax.
If the third party wishes to pay only a part of the college expense, then it is a bad news for you. The amount of gift given by the third party will be subtracted from your aid package. To avoid this, the third party should wait until your child has finished the college, and then he/she should give the money to you to help you pay the loans and other unpaid expenses.
- STOCKS, BONDS, MONEY MARKET ACCOUNTS, and CDs:
The value of the stocks and bonds on the day when you file the need analysis form is considered. The exact price of the stocks and bonds can be found out by going through the market listing in a newspaper, or by consulting your broker. One should remember that the bonds are not worth their market value until they mature, and till then they are worth only what someone is willing to pay for them.
Though any debt against the asset reduces the value of your net asset, but you can only avail margin debt against this type of asset. When you set up a margin account with any brokerage firm, then you can avail money by keeping your stocks as a security. The money you get as a margin can be used in any way you want. The loan or debt you take against the stock is a secured loan, but you have to pay interest at a higher rate than the unsecured loans. The good thing about this loan is that, in most of the cases, you can deduct the interest on the loan on the tax form as an expense, and you can deduct the whole loan from your assets in the need analysis form.
Instead of selling your stock for paying for college, you should take some debt against the stocks. In this way you can retain your assets and you won’t have to pay taxes on capital gains, and this will reduce the value of your assets in the eyes of the FAO.
You should consult your broker for the expected behaviour of the stock market in the future, because the margin debt also involves some risk. In case, if the stock market crashes drastically, then you can be asked to give extra stock as security, and in the worst case scenarios you will be asked to pay back the borrowed money, failing to which you may lose the stock you had put up as security.
If you receive monthly payments from somebody, to whom you have sold something for an initial down payment, say your house, then you are a mortgage holder or you act as a bank, and the present face value of the house is considered as your asset. You should consult a real estate professional, or a banker to find out the current market value of your investment.
- 529 Plans (Prepaid Tuition Programs & Tuition Savings Accounts) and Coverdell ESAs:
Previously, any amount of money contributed to these long term plans would be considered as the students’ asset under the federal methodologies (provided that the student must be an adult), and the parent’s asset on one year’s version of the FAFSA. The HERA made some changes to this provision, and it was decided that the prepaid 529 plan will be treated in the same way as the 529 savings plans and the Coverdell are treated. The CCRA 2007 further approved that student-owned 529 plans or Coverdell ESAs will be reported as part of parental investments on the FAFSA.
The investment into these long term plans will still be considered as the student’s asset in all the cases, and the college will decide what value of the distribution will be assessed.
As with the prepaid plans, if any money is withdrawn from the 529 savings plan or a Coverdell ESA, then it will not be considered as income of the student.
In a case, if the owner of the account is somebody other than the parents, then the account won’t at all be considered as an asset under the federal formula. But, the dollar value equal to the amount withdrawn from the account will be taken into account as untaxed income, and will have to be shown as income in the base income year. This will increase your income for that particular base income year. This situation is a bit complicated, so you must consult a competent financial advisor to find a solution, as more and more colleges are taking this account into consideration to decide the income of the family.
- BUSINESS OWNERS:
If you own a business, and you have employed more than 100 full time employees, then you will have to include the net worth of the business in your asset (including cash on hand, receivables, machinery and equipment, property, and inventory held, minus accounts payable, debts, and mortgages.). This may have a very bad effect on your EFC.
There is a good news for the business owners with less than 100 full-time employees working for them. Starting from the 2006-2007 academic year, the small scale business owners (or family business) are not required to include the value of their business as their asset on the FAFSA form.
The FAO would ask for the information on a few portions of the balance sheet, and you must reveal only the information that the FAO wants to know, and nothing more than that. The value of your business is surely a thing of pride to you, but you must avoid bragging about it. The higher you net asset, the worse are your chances of receiving aid.
Any business is classified as a family business, when at least 50% of the total share is owned by the family (including cousins, nieces, nephews, or by marriage.)
The FAOs know that if a family runs any business, then they will need some yearly capital to cope up with the business expenses. So, even if you have to report the business as your asset in the aid form, the net worth will still be assessed lightly. This means that the business assets are much better than the personal assets.
If you own several properties, and a large chunk of your income comes from these properties, and you also have to spend good amount of time and money in taking care of these properties, then your real estate can also be counted as a business.
If you own the building in which your business runs and file business tax returns, and you have rented one or more properties, then you can qualify for a good amount of aid by convincing the FAO regarding it.
- FARM OWNERS:
If your farm is your primary residence, and if you can claim it on schedule F of your IRS 1040 form, then under the federal methodology, you can exclude the equity of the farm. The FAFSA form still includes a question about the net worth of your farm, but it gives you a privilege to exclude the farm, if it is your primary residence.
The institutional methodology counts the net worth of the farm equity, regardless of the place where you live.
One should remember to not include the value of the farm twice. If you have listed it under home, then you must not count it under farm property.
Just like the business, parent’s farm will also be assessed very lightly on the FAFSA and the PROFILE form.
- ASSET PROTECTION ALLOWANCE (Under Federal Methodology):
After all of the above assets have been evaluated, and the FAFSA processor has determined your net assets, you can make one final subtraction to the value of your net assets under the Asset Protection Allowance.
This deduction solely depends upon the age of the person who is in the custody of the student (parents, step parents etc.). The older the person (who is in custody of the student), the more assets can be sheltered. You are liable to deduct the amount of money from the asset. The chart below will give you a brief idea on how the deductions are made based on the age.
ASSET PROTECTION ALLOWANCE (APPROXIMATE)
AGE TWO-PARENT FAMILY ONE-PARENT FAMILY 34 or less $15,100 $4,100 35-39 $20,100 $5,400 40-44 $26,200 $7,100 45-49 $29,500 $7,700 50-54 $33,500 $8,900 55-59 $38,300 $10,000 60-64 $44,100 $11,300 65 or more $48,100 $12,300
Now, after the deduction of the family protection allowance, 12% of the result is assessable. Whatever amount we get is then added to the available income and the final amount is called Adjusted Available Income (AAI). The maximum assessment rate of the AAI is 47%, so maximum contribution from assets is approximately 5.65% (12/100*47/100 is almost equal to.565 or 5.65%).
After subtracting the amounts accordingly, only 5.65% of the net assets of the parents is considered assessable. Families with less assets need not worry, because if the final net asset comes out to be too less, or less than the protection allowance, then the EFC becomes zero.
- ASSET PROTECTION ALLOWANCE (Under Institutional Methodology):
The asset protection allowance under the institutional methodology does not yield the same deduction as the federal methodology. This is because the institutional methodology does not consider the assets in the retirement accounts, and so they don’t feel the necessity of protecting some extra non- sheltered assets for retirement
Instead of the retirement allowance, the institutional methodology has set three other allowances: The Emergency Reserve Allowance, The Cumulative Education Savings Allowance, and the Low Income Asset Allowance.
THE EMERGENCY RESERVE ALLOWANCE makes sure that each family has some extra money for any emergency condition such as illness and/or unemployment. For the 2010-2011 emergency year, this allowance was as follows:
- Does not assess home value
- Does not assess farm value, provided the family lives on the farm and can claim on schedule F of the IRS 1040 that they “materially participated in the farm’s operation”
- Does not assess business net worth for a family business, provided the family owns and controls more than 50% of the business and it has 100 or fewer full-time employees
- Asset protection table based on parent cost of an annuity
- Provides for exclusion of all assets if you meet the Simplified Needs Test
- Asset assessment on a sliding scale based in part on income.
- Assesses home value, but some colleges will choose to ignore home equity or cap home value at 2.4 times income, or cap home equity at 2 times income.
- Assesses all farm equity and all business equity.
- All assets are assessed, regardless of whether or not you meet the simplified Needs Test.
- Asset assessment is not related to income, except for those with negative available income.
- Assets held in the name of siblings are considered as parental assets.
- Assets allowances based on emergency reserves, educational savings, and low-income supplements.
- ASSESSING STUDENT INCOME:
The federal formula does not touch the first $7,000 earned by the student, and after that the rest amount will be assessed at 50% as income, and 20% will be assessed as an asset. This means, after the 7000th dollar, 50 cents of each dollar will be assessed as income, and 20 cents will be assessed as an asset.
The institutional methodology differs a bit in this context. Any penny earned and saved above $4,236 by an incoming freshman, or $5,651 by an upperclassman will be assessed at 71 cents per dollar. Further, students opting for college that uses the institutional formula have to be responsible for a minimum contribution of $1,800 as a freshman and $2,400 as an upperclassman, no matter what.
The present assessment rates under both the methodologies have made situations weird, as in order to get more aid, the students will have to restrict themselves from earning. But if your family has no chance of getting any financial aid, then the student should be encouraged to earn as much as possible.
The students should concentrate more on studies and doing well in school, after they have earned a certain amount of money. Under certain rules, the aid depends on the grades of the students achieved in the high school. In college, the aid depends on the GPA, and higher GPA ensures better job with better package which can help in loan repayment.
Only the money earned through the Federal Work-Study program is not assessed under the minimum contribution in the institutional formula, and will not decrease your aid under any formula. Though, this money will be subjected to tax.
If your child has already earned more than the limit, then you should write to the college, and let them know that this is not going to happen again in future, as your child will have an added work load from college too.
When a child is exempted from the parent’s income tax return, and has at least $350 of the gross income out of $1,000 unearned income, then there has to be another tax return filed in the name of the child.
If the child does not have any unearned income, then up to $6,200 of their income can go tax-free.
The IRS is coming up with ways to crack down parents who are putting their assets in the child’s name to shelter a part of their assets. If the child has any kind of investment in his name, then the earning limit can be lowered from $6,200 to as low as $1,000.
The IRS and colleges have got their own ways of knowing if a child is dependent or independent. The college understands that, if the child is independent then he won’t be earning much. So, the financial aid for them will also be higher. It may happen that your child is filing his own returns and has taken exemptions, but this does not necessarily mean that he will qualify as an independent under the federal aid formula.
- ASSESSING STUDENT ASSETS:
While it might be a good idea to put some of your assets in your child’s name from the tax return point of view, but doing this during the base income year can be economic suicide for you. The colleges assess the parental assets at a top rate of 5.65% each year, but assess the child’s asset at about 20% in federal formula, and 25% in institutional formula each year. Adding to the misery, the child gets no protection allowance at all. Any tax reduction achieved from doing this can never fulfil the loss due to reduced financial aid.
In the worst case scenario, the college can assess the child’s asset twice in a year. The college takes 20% of the entire amount of asset, and then the college takes 50% of the income generated by the assets.
If you have already put your asset in your child’s name, then consider the following before you get demotivated
- If you are not at all eligible for the need based aid, then putting the assets in your child’s name may be a very good decision
- If you qualify for some need based aid, but the amount of aid is too low, then your benefits from tax deduction through asset shifting can be of very much help to you.
- Now, if you have already transferred the asset in the custodial account, you cannot undo the error and liquidate the money by withdrawing. If you do so, then the IRS will come behind you for back taxes and back interest and may tax the money at the parent’s tax rate from the time the funds were transferred to the child’s name.
One should consult their competent financial advisor, who has a very good knowledge of both the tax code and the ins and outs of financial aid, to know about the shifting back of funds from the custodial account.
- First $6,310 in student’s after-tax income is sheltered for a dependent student
- No minimum contribution from income
- Asset assessment rate of 20%
- No income protection allowance.
- Minimum contribution from income as high as: $1,800 for incoming freshmen, $2,400 for upperclassmen
- Assets assessment rate of 25%
|Number of members in the family||Allowance|
If there are more than five members in the family, then additional $2,830 will be granted for each extra member.
THE CUMULATIVE EDUCATION SAVINGS ALLOWANCE helps the parents shelter their yearly educational savings from getting taxed, which the family has saved in years. If more than one student is enrolled in the college in the same year, then the formula assumes that the savings were made for each child, and those savings will be used during student’s college career.
The LOW INCOME ASSET ALLOWANCE is given to the families who have very low income, or negative available income. The amount given as an allowance is equal to the amount of negative available income. This allowance is given to help the family cover up their basic expenses.
The above three allowances are calculated by the PROFILE processor. These allowances are then subtracted from the parent’s net assets, and the result is assessed as the parent’s contribution from the assets.
Starting from the year 2010-2011, there is no relation between the income and rate of assets assessment. In the institutional methodology, the first $34,450 of the parent’s discretionary assets will be assessed at 3%, next $34,450 at 4%, and any assets in excess of $68,900 will be assessed at the rate of 5%.
If there are more than one dependents in college in the same year, then some adjustments are made to the discretionary net assets, based on the number of family members in the college on at least half-time basis. The institutional methodology counts only dependent children as the household members in college, and if any of the parent chooses to go the college the same year, then they should explain the matter directly to the FAO.
Difference between Federal and Institutional Methodologies in assessing the assets and liabilities
|FEDERAL METHODOLOGY||INSTITUTIONAL METHODOLOGY|
ASSESSING STUDENT INCOME AND ASSETS
DIFFERENCES BETWEEN FEDERAL AND INSTITUTIONAL METHODOLOGIES IN ASSESSING STUDENT INCOME AND ASSETS
|FEDERAL METHODOLOGY||INSTITUTIONAL METHODOLOGY|
WHY IS IT A GOOD IDEA TO MEET YOUR EFC USING MORE OF YOUR CURRENT INCOME?
For several reasons, relying on your assets to pay for your child’s college education may be a wrong decision. If you had not pre-planned about your child’s educational expenses, then you may get into big trouble.
The economy keeps on changing, and it is important that you adjust your mind-set according to the economic changes. Here is why, it is important for you to consider or rely on your present income more than your assets, while paying for your child’s education:
- The Value of the Assets changes along with the change in the economy: Home-equity
Usually, people use their home equity to cope up with the major expenses, like buying a new car or a new home, or even upgrading their old home. And, during this process, they end up spending a major part of the home equity. At some point, your home-equity will have very less or no value, and you won’t be able to utilize it for your expenses any more.
It may also happen that the value of your assets has declined along with the time, and you had unknowingly been relying on those assets to pay for your child’s educational expenses. Trust us, you will not want to hear such horrible news when it comes to your child’s future, and you will be in urgent need for the money. So, we recommend you to plan your child’s education with the help of your present income.
- You don’t keep an account of your expenses
If you analyze your expenses, then you will get to know that, every year you spend a good amount of money on the things that you barely need or don’t need at all. This drains out the money from your bank account, which could have been used for more important things like, your child’s college education.
The reason, why we are stressing upon the present economy and your expenses so much, is because, your child needs to go to the college. You cannot manage with any ordinary college, rather you need to send him to a college that offers the best quality of education, and is the best fit for him. And, in order to send your child to a college of that stature, you will have to meet the EFC.
If you choose to pass the EFC down to your child in the form of loan, then it may become a hell lot of burden on him/her after he/she graduates from the college. Undoubtedly, there are better ways to meet your EFC, and you just have to search for them.
You can manage your expenses easily, by categorizing them into the following.
Anything extra can be counted as useless, and you can try to curb them at least till your child graduates from the college.