In theory, there are two propositions that underlie the calculation of the EFC:
1. When it comes to paying for college, parents are expected to pay as much as they can afford.
2. The student is expected to contribute an even higher proportion of any assets held in his or her own name.
And then there is a third piece of the pie, something that exists outside
of the computer’s ability to assign a number: special circumstances. The EFC
is based on a family’s current finances, not on its financial history over time,
and not on expected increases or decreases in coming years. And though the
FAFSA asks questions about marital status and touches on medical expenses,
it cannot take into account all of life’s events: divorce, illness, death, loss of
job, loss of income, or other happenings.
3. If your life situation does not translate easily to a sheaf of
papers or a computer form, get in touch with the financial aid
office of all schools where your student has applied or has been
accepted. Send a letter, with documentation, that augments
the information on the FAFSA as filed. And specifically ask the
college to adjust its financial aid offer.
The EFC is based on a combination of factors:
• The family income, as reflected in the modified adjusted gross income
• The assets of the family, excluding the home
• Investments held by the parents
• Investments held in the name of the student
Before the EFC is calculated, adjustments are made to take into account
certain tax credits and benefits taken by the parents or students, certain
untaxed income, and the number of other children in the family who will be
in college at the same time.
How the Student’s Assets Are Allocated
If your child has managed to put aside $100,000 in earnings from his
lemonade stand or from her personal investments in Chicago Mercantile
Exchange frozen pork belly futures, the federal methodology is going to
say—in an electronic sort of way—“aha!” and ask the student to start writing
checks to the college bursar’s office.
The same goes for children whose well-meaning parents, grandparents,
other relatives, and friends of the family have given money that is listed in
the student’s own name: UGMA and UTMA accounts, savings accounts, and
piggybanks. The standard formula calls for students to contribute 35 percent
of their assets each year.
If a child started out with $100,000, and leaving aside any interest or
dividends earned on the investment, the contribution would be something
like this:
• Freshman year: as much as $35,000 of the $100,000
• Sophomore year: as much as $22,750 of the remaining $65,000
• Junior year: as much as $14,787 of the remaining $42,250
• Senior year: as much as $9,612 of the remaining $27,463
The bottom line is that the student would be expected to pay nearly
$82,000 from savings, which essentially is full freight for four years of college
at most institutions of higher education.
Are you thinking that perhaps your student would be better off making
a gift of that money to you a few years before college, and then receiving a
gift from you after graduation? Or perhaps the student might want to fund
a retirement account at age sixteen. Done properly, either is a good idea.
Consult a tax preparer or accountant for specific advice.
How the Parents’ Assets Are Allocated
In the government’s infinite wisdom, recognition is given to the fact
that parents have expenses other than those of their college-bound student.
You know, things like a mortgage or rent, utilities, health care, and food for
the table.
The basic formula calls for parents to contribute 5.6 percent of their
assets (not including the value of the family home, retirement funds, and
some other exclusions) to college for one child. The percentage goes down a
bit if there is more than one child in college at the same time and goes up a
bit if parents have certain types of investments or deductions from income.
The percentage is also effectively reduced based on the age of the parents;
the older they are, the larger the portion of assets protected from allocation
to college. The thinking here is that older parents will have greater need for
their savings when they retire.
Let’s assume that a pair of relatively young parents have that same
$100,000 nest egg (not set aside as an IRA or other retirement fund). Under
the basic federal methodology, the annual contribution (without taking into
account interest or dividends earned on that money) would be:
• Freshman year: as much as $5,600 of the $100,000
• Sophomore year: as much as $5,286 of the remaining $94,400
• Junior year: as much as $4,990 of the remaining $89,114
• Senior year: as much as $4,711 of the remaining $79,412
The bottom line is that parents with $100,000 in savings would
be expected to contribute about $20,588 for four years of college at most
institutions of higher education.
So What Have We Learned?
Saving for your child’s education is a good thing. Putting the money in
your child’s name is probably not.
Consult a financial adviser or a tax accountant as early in your child’s
life as you can to set up 529 Plans (which are not considered the child’s assets)
and other investments that are to your best advantage. And if as you read this
page you have a significant amount of money listed in your child’s name, you
may want to consult with your accountant about legal ways to transfer the
funds to shelter them from the EFC.
Read More: The Federal Financial Aid Methodology
