Paying for College
A college education gives your child a significant advantage in today’s job market, generally delivering higher earnings throughout their entire working life. Over the years, Congress has introduced many different incentives to help families afford the cost. Here are several of the key incentives and how they can help with you with the rising cost of attending college.
Tax Incentives
Eligible taxpayers can deduct up to $4,000 in eligible postsecondary (college) expenses. This deduction disappears for taxpayers with modified adjusted gross income above $160,000 (joint) or $80,000 (single).
The American Opportunity Tax Credit (AOTC) is a $2,500 tax credit available for the first four years of post-secondary education. The AOTC is a tax credit for the first $2,000 of qualified education expenses paid for each eligible student. If the credit reduces your tax below zero, you can have up to $1,000 refunded to you.
The Lifetime Learning Credit provides up to $2,000 tax credit for any student in a postsecondary (undergraduate, masters, professional degrees or job training) education and there is no limit to the number of years you can claim the credit.
Tax credits are preferable as the credit is applied directly to reduce the amount of tax you owe, while tax deductions reduce the amount of income on which your taxes are calculated. Thus a $2,000 tax credit is much more valuable than a $2,000 deduction.
It’s also important to remember that you can only take one tax benefit for each student in a given year, so choosing the right one is important!
Grants and Scholarships
Grants are offered by colleges, states, and the federal government. Most are awarded based on your financial need, as determined by the income you reported on the Free Application for Federal Student Aid, or FAFSA. Others are based solely on merit, regardless of need. Some state-sponsored grants are awarded based on criteria such as minority demographics or interest in high-demand fields. Scholarships are typically privately offered by companies, nonprofits and community groups. They tend to be for specific majors, programs or vocations. Online services like Fastweb, Cappex, or Scholly can help you search for a scholarship that fits your situation. Qualifying for the right grant or scholarship can take years of preparation, especially in highly competitive schools or majors, so starting early is recommended.
Savings Vehicles
The most popular college savings tool today is the Qualified Tuition Program, better known as “529 plans,” offered through state governments. They allow for very large contributions and provide tax-free savings as long as the funds are withdrawn and used to pay for higher education expenses. Each state has their own program, most of which are administered by a financial services company like Vanguard or Fidelity. Since 2017, funds in 529 plans may also be used for secondary education, up to $10,000 per year.
Another option is a Coverdell Education Savings Account, but the contribution limits are lower (only $2,000 per year) and funds in the account must be withdrawn by the time the beneficiary turns 31.
Borrowing for College
Federal Student Loans come in different flavors. Direct Subsidized Loans are for students who can demonstrate financial need. Interest is waived while in school and principal and interest payments generally do not begin until several months after graduation. Direct Unsubsidized Loans are not based on need. With these, payments may not be due while you’re in school, but interest is due and will be added to the balance of the loan (capitalized), increasing the total amount borrowed. Finally, Direct PLUS loans are based on credit scores, but are for parents of dependent students.
There are also state loan programs as well as private loans. Interest paid on student loans, no matter the source, can be deducted on your tax return, as long as your income is less than $170,000 for a joint filer.
Putting it all together
As the cost of college has grown, it’s become increasingly important to save what you can while your children are young, then balance the grants, tax credits and loans available to actually make payments once the big day finally arrives.
This column is prepared by Rick Brooks, CFA®, CFP®. Brooks is director/investment management with Blankinship & Foster, LLC, a wealth advisory firm specializing in financial planning and investment management for people preparing for retirement. Brooks can be reached at (858) 755-5166, or by email at rbrooks@bfadvisors.com. Brooks and his family live in Mission Hills.
Category: Education, Finance, Local News, Students
