What to do with student assets?
When it comes to financial aid, student assets are a big no-no. They increase the federal Expected Family Contribution (EFC) by 20% of the reported asset value. Even worse, colleges that use the Institutional Methodology of calculating aid, will count them at a 25% rate. So an UTMA or UGMA investment account with an account balance of $40,000 will increase the federal EFC by $8,000 and the institutional by $10,000. What should you do?
First, are they really assets of the student? They are if the account has the student as beneficial owner and includes the student’s social security number, even though the parents may be custodians and have full control of the account.
Let’s quickly review the different types of accounts:
1) Bank accounts
If in the student’s name, is the student’s asset. If held jointly with a parent, the value is split evenly.
2) UTMA or UTGA Investment Accounts
Many families have UGMA or UTMA investment accounts for their children, holding stocks, bonds or other securities. These are taxable accounts and may include taxable capital gains. These are assets of the student and are counted at 20/25%.
3) Trusts, e.g. Crummey Trust, 2503(c) Minor’s Trust
These are assets of the student, counted at 20/25%.
4) Coverdell ESA and 529 Plans
These are the exception to the rule. They are counted as parent assets at the 5.6% rate.
So one strategy is to move student money from bank, investment, or trust accounts to a Coverdell or 529 Plan.
Coverdell contributions are limited to $2,000 per year, so 529 plans offer the best option. These are tax deferred accounts (another benefit), but you can only transfer cash into them, not securities or other asset types. Liquidating the investments can cost you in two ways: first the tax bill for capital gains (at Kiddie Tax rates), and second, the capital gains will increase the student’s income in the financial aid calculation.
So, on the one hand, moving the money is a financial aid benefit because it reduces student assets, but on the other, it may count against financial aid by increasing income.
If you do this prior to December 31st of the high school Sophomore year, the transactions are outside of the ‘base year’ for financial aid purposes and the increase in income is not an issue. But for Juniors or Seniors, a complete understanding of the consequences of such a transfer is needed.