Financial Aid 101: Planning Opportunities for CPAs
EXECUTIVE SUMMARY * COLLEGES AWARD FINANCIAL AID IN THE FORM OF scholarships, grants, loans and work-study awards based on the financial need of a student. The formula used to determine financial need is: financial need = cost of attendance (COA) - expected family contribution (EFC). * THE EFC IS DEPENDENT ON THE INCOME AND ASSETS of parents and student and is determined by filing the free application for federal student aid (FAFSA) every year that a child will be in college. * Generally, any income and assets parents have in excess of $100,000 will significantly reduce their eligibility for financial aid for children in college. * The federal methodology is used by most institutions for awarding financial aid, but some private colleges and a select group of elite schools use other methodologies. * CPAs CAN PROVIDE A VALUABLE SERVICE TO THEIR clients by assisting in the filing of the FAFSA form and planning to maximize financial aid awards. With college costs increasing faster than the rate of inflation and the annual price tag at many private colleges now exceeding $40,000, financing a college education has become more daunting than ever. CPAs increasingly are being asked for advice on how to save for college and how to maximize financial aid awards. While it is tempting to recommend saving in a child's name because of the lower tax rate or investing in prepaid tuition plans to gain immunity from tuition hikes, such actions can dramatically reduce financial aid awards. Estimating financial needs and devising tax-effective investment strategies are important (see "Other Considerations," page 83), but relying exclusively on tax-favored investments for college can negate the fruits of hard work and planning if the result is a reduced financial aid award. CPAs can play a key role in advising clients on investment and tax strategies to finance college education. In this article we'll analyze the federal financial aid formula, explain the effects of different factors on financial aid awards and offer planning opportunities CPAs can consider for their clients. THE FORMULA Colleges awarding scholarships, grants, loans and work-study programs based on the student's financial need use the following formula: Financial need = cost of attendance (COA) - expected family contribution (EFC). COA is the total yearly cost including tuition and fees, on-campus room and board (or a housing and food allowance for off-campus students), books, supplies, transportation, loan fees and miscellaneous expenses, including an allowance for the rental or purchase of a personal computer. The EFC is dependent on the income and assets of parents and student. Exhibit 1, page 81, diagrams the components of the EFC. The EFC is determined by filing the free application for federal student aid (FAFSA) every year that a child attends college. This is an additional service CPAs could provide their clients and is easily done at the time the client's tax return is prepared. The FAFSA should be filed after January 1 of each year; it can be filed electronically at www.fafsa. ed.gov. Computation of the EFC is a process akin to filling out an income tax return. To maximize financial aid awards, CPAs need a sound understanding of the rules. To illustrate how the financial aid formula works, let's assume the following facts for the Jones family for 2004: Family: Size (2 parents, 2 children) 4 Number of children attending college 1 State of residence Massachusetts Parents: Age of the older parent 50 Earned income of parent 1 $40,000 Earned income of parent 2 $20,000 Adjusted gross income $63,000 Contributions to 401(k) plans $6,000 Assessable assets $50,000 Student: Earned income $4,000 Adjusted gross income $4,200 Assessable assets $5,000 The calculations of the EFC for the Jones family are presented in exhibit 2, page 82, and explained below. …