How to Increase Eligibility for Need-Based Financial Aid
There are several ways of increasing eligibility for financial aid on the Free Application for Federal Student Aid (FAFSA).
Tips about Income on the FAFSA
The expected family contribution (EFC) is heavily weighted toward income, much more so than assets. As much as 47 percent of parent available income and 50 percent of student income are counted on the FAFSA, as compared with up to 5.64 percent of parent available assets and 20 percent of student assets. Accordingly, it is important to avoid artificially increasing income during the base year, two tax years prior to the FAFSA award year. This is especially important if the parents are close to the $50,000 income threshold for the Simplified Needs Test.
- Avoid realizing capital gains during the base year, or offset them with capital losses. It is best to realize capital gains prior to January 1 of the sophomore year in high school
- Do not exercise stock options
- Defer bonuses to a subsequent year
- Avoid taking distributions from retirement plans, even a tax-free return of contributions from a Roth IRA
- Gifts to the student are treated as income on the FAFSA, but gifts to the parent are not
Tips about Assets on the FAFSA
Assets are less important in the federal financial aid formula, but still can affect eligibility for need-based aid. In particular, assets in the student’s name have a bigger impact on aid eligibility than assets in the parent’s name. So, it is important to save and spend assets strategically.
Save assets strategically:
- Save in the parent’s name, not the student’s name, or in a 529 college savings plan. The so-called Kiddie Tax is less valuable, now that the age threshold is 18, 19 and 24
- Avoid 529 college savings plans that are owned by a grandparent, non-custodial parent or anybody other than the student or a dependent student’s custodial parent. Distributions from such 529 plans will have a harsh impact on eligibility for need-based financial aid. One can work around the problems with such 529 plans by rolling them over into a parent-owned 529 plan from the same state after filing the FAFSA but before taking a distribution. One can also wait until the student is a junior or senior in college to take a distribution, when there is no subsequent year’s FAFSA to be affected by the distribution
- Move money in an UGMA or UTMA account into a custodial 529 plan to yield a more favorable financial aid treatment
- Avoid receiving loan proceeds, such as from a home equity loan or line of credit, prior to filing the FAFSA
- Maximize retirement plan contributions. Although this will not reduce total income when the FAFSA is filed, since base year contributions are added back as untaxed income, it will reduce reportable assets
- If you receive a lump sum windfall, such as an inheritance, consider contributing it to a 529 plan or a qualified annuity
Spend assets strategically:
- Spend down student assets first, before touching parent assets
- Spend money on necessary expenses before filing the FAFSA instead of afterward. For example, if your house needs a new roof or a new furnace, it is best to do this work before the FAFSA is filed, so that reportable assets will be reduced
- Use reportable assets, such as money in the bank, to pay down credit card debt, auto loans and, in some cases, mortgages. Paying off high-interest debt with low-interest savings also makes good financial planning sense
- Carve out $4,000 in tuition and textbook expenses to qualify for the maximum American Opportunity Tax Credit before relying on tax-free distributions from a 529 plan
Tips about Demographic Details
Demographic changes can affect eligibility for need-based financial aid.
- Increase the number of children enrolled in college at the same time. The parent contribution portion of the EFC is divided by the number of children in college. It is better to have twins than singletons separated in age by four years. One could try to space children closer together. Also, when considering whether to let a child skip a grade, consider the impact on the timing of college enrollment. Does skipping a grade increase or decrease the number of years of overlap?
- If a parent is enrolled in college at the same time as their children, appeal to the children’s colleges for a professional judgment review. (There is no need to appeal to the parent’s college, as the parent and children who are enrolled in college are automatically included.) The colleges will want to see proof that the parent is genuinely enrolled in college, such as copies of paid college bills. Some colleges will subtract the actual cost of the parent’s college education from parent income, instead of increasing the number in college figure.
- When a dependent student becomes independent, sometimes it will increase the student’s eligibility for need-based aid, since it eliminates parent income and assets from the FAFSA. But, sometimes it does not increase aid eligibility. For example, the income and assets of the student’s spouse must be reported on the FAFSA, and some of the allowances will be different.
- If the student’s parents are divorced or separated, choose the custodial parent carefully to maximize aid eligibility. Usually, the custodial parent should be the parent with the lower income. However, if this parent remarries, the stepparent’s income and assets must be reported. But, if the stepparent has children from a previous marriage and provides more than half their support, they can be counted in household size and number in college even if they don’t live with the stepparent.