This week, Gail has a few ideas that could make college more affordable, even if you’ve saved very little.
OK, it’s down to where the rubber meets the road: your teenager is headed to college in a year or two and you’ve managed to squirrel away, oh, $5,000 for this purpose — not even enough, it turns out, for the first semester’s tuition.
You’re sweating bullets. Your household income is too high to expect financial aid. And besides, much of that comes in the form of work-study. You also don’t want to saddle your child with tens of thousand of dollars in student loan debt. So, instead of having your house paid off when you retire in 10 years, you figure you’re going to have to re-mortgage it or take out a home equity loan. Early retirement? Ha! You’ve resigned yourself to the fact that you’ll be flipping burgers when you’re 70.
Here’s a dirty little secret about the word of higher education: the cost of college is negotiable.
So says Deborah Fox, a San Diego financial advisor who has created a successful practice advising clients who don’t qualify for need-based financial aid how to afford a first-rate college education for their children.
“On average,” says Fox, “we’ll save a family $20,000 to $40,000 per child. It can be more than $100,000 if the client has multiple kids or owns a business.” Fox started digging into the subject several years ago when a couple of clients with students headed for college the following year asked her for advice. She says what she learned “shocked” her.
She used that knowledge to develop a comprehensive approach to whittle down the cost of college. It’s been so successful her brokerage firm has asked her to teach it to other financial advisors employed by the company.
The fee for a customized plan that looks at college funding in conjunction with the family’s tax, retirement, and estate plans runs from $1,250 to $2,750, depending on the complexity of the situation. “We won’t engage a client unless we can save them triple the fee,” claims Fox. “Many times we’ll knock off a full year of college costs.”
Fox, a 21-year veteran of the financial services industry, says she gets upset when she hears about the advice some advisors give clients with college-bound kids. “Buying life insurance and annuities to get assets of the family aid formula isn’t in the client’s best interest. Advisors are just out to make a buck.”
Instead, says Fox, mom and dad need to think outside the box. She thinks parents get too stressed-out by “the financial aid rat race.” Too often, they figure their income is too high to qualify for need-based financial aid and may not even apply. That can be a big mistake, especially if your child is attending a private college or you have more than one student attending college at the same time.
The latter reduces the amount of money the parents are expected to come up with per child. For instance, if you have two kids simultaneously enrolled in college the expected “family contribution” is reduced by 50 percent on a per child basis, making it more likely that your student will get approved for need-based aid to cover the rest of the cost. According to Fox, if you know how the rules work, “families earning more than $100,000/year can easily qualify.”
Of course, not all financial aid is created equally. The most desirable is “gift” financial aid, i.e. the kind that doesn’t have to be re-paid. Want to increase your child’s chances for getting some of that? Think “private college.” State schools simply don’t offer a lot of “free” money; most of their financial aid is in the form of work-study.
Before you jump to the conclusion that there’s no way you can afford to send your kid to a private school even with a “gift” scholarship, think twice. Thanks to multiple years of price hikes — double-digit ones in many cases — public universities aren’t the bargains they used to be.
When you factor in the fact that private schools are much more likely to provide “free” financial aid, the out-of-pocket cost of a private education can actually be less than State U. “We’ve got clients whose kids are attending USC for less than what it would cost to attend school in the University of California system. They’re getting a $15,000 to $20,000/year discount,” claims Fox.
Read — But Don’t Believe — the Fine Print
The first thing parents need to do is change their mindset about the cost of college. Realize that the dollar amount in the brochure for “tuition, room & board” is just a starting point. In some cases, it could be completely irrelevant. “Families have to play the game,” says Fox. “Colleges don’t want the public to know. The trend is that the price of tuition has been artificially raised so they can attract the students they want.” For those students, the college will discount the price.
The key, then, is to position your student so the college makes the offer. According to Fox, if you can match the student’s profile to what the college is looking for it’s likely the student will be admitted and get a “gift” financial aid. She claims more than 1100 schools will guarantee such scholarships if the student meets their criteria.
In essence, your student builds an academic “resume” tailored to the kinds of colleges he/she wishes to attend. Ideally, you want to start doing this when the student is a freshman or sophomore in high school, but it’s never too late. And grades are less important than you might think. Fox maintains there are plenty of schools looking for strong “B” students.
For instance, consider the talents your child has. Is he/she using them in some sort of community service? This shows a college the student can make a commitment to something he/she is good at. The goal is to make your child stand out and match his/her attributes to a college looking for that profile.
Don’t Be a Snob
Although slapping a “My Kid Goes to Harvard” bumper sticker on your car might give you an ego boost, the glow quickly fades when you receive the first tuition bill. Looking beyond the institutions that make the elite “top 50” list of colleges and universities can have benefits for parents and students alike. “Second tier private schools offer a wonderful educational experience,” says Fox. They may also offer smaller class sizes and a more personal learning environment. She advises a student should apply to schools where he/she falls into the top 20 percent of the applicant pool.
A less obvious benefit of attending a smaller, private college: it’s more likely junior will graduate in four years instead of five. That’s due to the overcrowded situation at many publicly-supported colleges as baby boomers' kids head to higher ed. According to Fox, because students can’t get into the courses they need to graduate, they have to hang around longer. You’ll potentially save tens of thousands of dollars just by virtue of the fact that your child completes college on time.
Fox’s approach to securing a high-quality, affordable college education for your child is three-pronged. Think of it as waging war: it’s part tactical: grades, submitting applications on time, tax strategies — and part psychological — positioning your student and cherry-picking where he/she applies.
Academic Admissions Strategies
It’s important to apply to the “right” colleges, meaning the ones where your student has the best fit. A great place to start is http://www.petersons.com , where you’ll find a wealth of free information. $39.95 gives you 6-month access to specific schools and the scholarships available for students who meet certain criteria. It also lets you compare the financial aid packages of different colleges. Although you have to pay for this information, “It’s worth it,” according to Fox.
If you enlist the help of a specially-trained broker at Fox’s brokerage firm, Securities America, she says they’ll comb a database of 3700 schools to find the best matches for your student. In one case, a client’s daughter wanted to study engineering. Fox’s research turn up the fact that Duke was looking to attract female students to its engineering programs. Not only did the student get accepted, she received a $15,000-a-year tuition discount.
Fox recommends applying to 6 or 8 schools “and at least four should be where the student falls in the top 20 percent of the applicant pool.” And don’t write off out-of-state colleges because “colleges want diversity — geographic, ethnic, talent, majors.”
You’ve also got to think strategically. If your child wants to attend USC, advises Fox, he should apply to UCLA as well. Why? Because the federal financial aid form families fill out (“FAFSA”) shows all of the colleges your student is applying to. “You want to create competition between schools,” advises Fox.” If your student has what they’re looking for and they’re afraid she’ll choose the school across town, the college might be willing to cut you a deal.
Cash Flow Planning
How would you like Uncle Sam to pick up the cost of college? By knowing the ins and outs of the tax code, you can free up money that can be directed to cover college expenses. Fox calls it the “Tax Scholarship.”
Here’s a no-brainer: If your child is not yet in college, be sure he stashes his earnings (up to $5,000 this year) into a Roth IRA. That’s because, provided the money is used for qualified higher education purposes, he can withdraw his contributions tax-free at any time. (If he also withdrew the earnings on those contributions they would be subject to income tax at the student’s rate.)
If you have a family business or own rental property, hire your student for reasonable wages. She can work on breaks, during the summer, or year round doing such things as filing, mowing the lawn, painting, etc. As Fox points out, by doing so, “you’re taking advantage of the lower tax bracket of the student.”
Higher income parents generally receive little or no tax reduction from the child tax credit or child deduction because the benefits of these phase out. Instead, mom and dad should have the student file his/her own tax return. Important: to be eligible the student must be able to demonstrate that he is paying more than 50 percent of his living expenses.
For 2005, a single taxpayer can claim a personal exemption of $3,200 and a standard deduction of $5,000. As Fox points out “that’s $8,200 in income to the student that is tax-free instead of being taxed to the parents.”
Another benefit of the student filing her own tax return is that she is more likely to meet the income requirement for the Hope or Lifetime Learning tax credits. Parents often lose these because their earnings are too high. But if the student pays a portion of her college expenses (from the salary she’s earned), the student will generally qualify for the tax credit.
In 2005, the combination of putting your student on the payroll, having him file his own tax return and factoring in the education tax credits “can shift $29,700 in income to the student, who generally won’t pay more than a 15 percent rate.” In fact, the first $10,000 to $15,000, says Fox, is tax-free.
You can also gift appreciated securities to your child. Provided she is in the 10 percent or 15 percent tax bracket, she can cash them in and pay a 5 percent long-term capital gains tax. In contrast, if mom or dad sold them, 15 percent would be lost to capital gains.
According to Fox, if you make maximum use of the above tactics while being mindful of keeping the child in the 15 percent bracket, you can “easily save about $7,000 to $8,000 in tax that the parents would have had to pay. Over four years, that’s a savings of about $30,000.”
Cash Flow Planning
Here’s where you weigh your income, expenses, and existing savings. For instance, says Fox, if parents have a successful portfolio, they may not want to liquidate it. In that case, since any family can qualify for a Stafford student loan or parental PLUS loan, it might make more sense to borrow the money and pay it back, especially if you expect your portfolio to generate a better return that what the loan would cost.
Here’s another opportunity to negotiate: private lenders are approved to offer these loans and according to Fox, they’ll sometimes discount the rate by one and a half to two percent. Caution: This strategy might not be as attractive starting July 1 when these loans are scheduled to revert back to fixed rates dictated by Congress.*
On the other hand, if you’re planning to cash in investments you own to cover the cost of a child’s college, you’re better off giving them to your student first. This year parents can make a joint gift of $24,000 without triggering gift tax. Once the securities are transferred, the child sells them. As mentioned above, he will probably pay less in capital gains tax.
If mom and dad want to replace the gifted assets — depending upon the interest rates in effect— Fox says it can make sense to take out a student loan and use those proceeds to immediately re-purchase the investments. This will give the parents what’s called a “stepped up” cost basis which will reduce the capital gains tax they have to pay when they eventually sell the securities.
Planning Pays — Literally
If all this sounds complex, well, it can be. But if you can save thousands of dollars isn’t it worth spending some time to figure this out? My advice is, armed with the ideas in this column talk with a tax or financial advisor about which ones make sense for your particular situation. To contact Fox or a broker with her firm that has gone through her training course, go to http://www.foxcollegefunding.com .
As Fox says, “If you’re not willing to do the planning, you can’t complain about the high cost of college.”
Hope this helps,
* The current variable rate on Stafford loans is 4.66 percent; PLUS loans are at 6.01 percent. However, when Congress reconvenes, among the first items of business is passage of legislation that, among other things, would stipulate that the interest charged on student loans revert to a [fixed] rate. The bill sets the rate on Stafford loans at 6.8 percent; PLUS loans would charge 8.5 percent.
If you have a question for Gail Buckner and the Your $ Matters column, send them to: firstname.lastname@example.org , along with your name and phone number.