Why Your Grandparents Could be Your Meal Ticket to College
There are many ways in which grandparents can help their grandchildren
pay for a college education. These include legacy scholarships and
tuition assistance programs, educational awards for volunteering and
community service, college savings plans and direct gifts.
Scholarships for Grandchildren
Very few scholarships are based on a grandparent’s affiliations. There
are many more awards based on a parent’s affiliations. However,
sometimes awards that are available to a parent’s dependents may also
be available to grandchildren. Grandparents may have more relevant
affiliations than the grandchild’s parents. (On the other hand, there
are also a few awards, like the Rotarian scholarships, which are not
available to students who have a close relative, including a
grandparent, who is a Rotarian.)
You can help your grandchildren find scholarships based on your
affiliations by giving them a resume that summarizes all of your
affiliations, including past and present employers, unions, military
service, memberships, hobbies and activities, in addition to details
concerning religion, race and ethnicity. Not only will you be helping
your grandchildren find scholarships that match their background, but
you will be giving them an opportunity to learn more about you and
your family history.
Grandparents can also spend time with their grandchildren to help them
study and get good grades or participate in volunteer activities
together. This can help them qualify for more awards.
The best way to find scholarships for grandchildren is to use
Fastweb’s free scholarship matching
service. When completing the profile on FastWeb or any other
scholarship database, your grandchildren should carefully review the
questions that ask about a parent’s employers and affiliations, as
some of these also apply to grandparents. Students who answer all the
optional questions will typically get twice as many matches as
students who answer only the required questions.
The three main types of scholarships that may depend on a
grandparent’s affiliations include legacy scholarships for
grandchildren of a college’s alumni, scholarships for military service
by a grandparent, and scholarships based on ancestry and ethnicity.
1. Legacy Scholarships.
Several colleges provide assistance to “legacies”, which are
descendants of alumni. While this is most often expressed through
admissions preferences, there are a few that have scholarship funds
for grandchildren of alumni. Many colleges have what are known as Legacy Scholarships for students whose grandparents previously attended the college. Students should check the admissions and financial aid websites of the schools they’re interested in as well as ask the college during the admissions process.
2. Scholarships for military service by a grandparent.
Most scholarships for military service are restricted to dependents of
a parent who served, but there are a few awards for military service
by a grandparent. Examples include the Marine Corps Scholarship Foundation that provides awards for students with grandparents that served in certain divisions. The American Legion is a good source of information on this topic.
3. Scholarships based on Ancestry and Ethnicity.
While not specifically restricted to grandchildren, there are a variety of
scholarships based on a student’s ancestry and heritage.
One example is the Order of Sons of Italy in America, which requires at least one Italian or Italian American grandparent.
The US Bureau of Indian Affairs also awards aid based on having at least 1/4 native american
blood (i.e., at least one grandparent is full-blooded).
Educational Awards for Volunteering and Community Service
Various volunteer organizations provide scholarships for children and
grandchildren of members. Examples include the
Idaho School Board Association,
Connecticut Association of Purchasing Management
(parent or grandparent must be a CAPM member),
and the Elks National Foundation.
The Edward M. Kennedy Serve America Act (HR 1388) authorizes the
Senior Scholarships program. This program provides $1,000 education
awards for people age 55 or older who volunteer for 350 or more hours
a year. These awards may be used for the volunteer’s own education or
transferred to a child, foster child or grandchild. Congress must
still vote to appropriate funding for the program as part of the
President’s FY2010 budget.
Contributing to College Savings Plans
Approximately a quarter to a third of grandparents help their
grandchildren save for college through 529 college savings plans,
gifts or other means.
529 college savings plans, prepaid tuition plans, Coverdell education
savings accounts and Series I and certain Series EE savings bonds are
tax-advantaged ways of saving for college. Distributions are tax-free
when used to pay for qualified higher education expenses and are not
counted as income or resources when evaluating eligibility for federal
need-based student aid. Many states allow you to detect all or part of
your contribution to the state 529 college savings plan on your state
income tax return. You can contribute up to the annual gift tax
exclusion ($13,000 in 2009 per grandparent per beneficiary) without
incurring any gift taxes. 529 college savings plans also allow for
larger lump sum contributions using 5-year gift tax averaging.
When a grandparent owns a college savings plan, it is sometimes
disregarded when calculating a student’s eligibility for need-based
aid. However, this does not necessarily increase the amount of student
aid the grandchild will get as compared with parent or child ownership
of the college savings plan. For example, section 529 college savings
plans, prepaid tuition plans and Coverdell education savings accounts
are not reported as assets on the Free Application for Federal Student
Aid (FAFSA) of a dependent student if they are owned by a grandparent
of the student. This is due to a change enacted by the
College Cost Reduction and Access Act of 2007. The change was
effective starting in 2009-10.
The specific legislative language was:
(3) A qualified education benefit shall be considered an asset of --
(A) the student if the student is an independent student; or
(B) the parent if the student is a dependent student, regardless
of whether the owner of the account is the student or the parent.
As such, college savings plans owned by a grandparent are not reported
as an asset when calculating the need-based aid eligibility of a
dependent grandchild. This is in contrast with student assets, which
are assessed at a rate of 20%, and parent assets, which are assessed
at a maximum rate of 5.64%. (While student assets are normally
assessed at a 20% rate, custodial 529 college savings plans owned by a
dependent student are treated as though they were parent assets and so
are assessed at a maximum rate of 5.64%. Most parent assets, however,
are not assessed at all, with only 4% of dependent children having any
contribution from parent assets. Certain parent assets are sheltered
from need analysis, including retirement funds, net worth of the
principal place of residence, small businesses owned and controled by
the family, and an age-based asset protection allowance that is
typically around $50,000 for parents of college-age children. In
addition, if the parents have income of less than $50,000 and satisfy
certain other criteria, assets might be disregarded entirely. )
However, qualified distributions from grandparent-owned 529 plans will be
reported as untaxed income to the beneficiary on the next year’s
FAFSA. (Non-qualified distributions are reported as income to the
beneficiary on the federal income tax return and so are included in
adjusted gross income, regardless of who owns the 529 plan.)
This will have a severe impact on aid eligibility, much worse
than if the 529 plan had been reported as a parent asset, since as
much as half the distribution will reduce the student’s eligibility
for need-based aid.
There are two ways to address the problem. One solution is to change the
account owner from the grandparent to either the student or the
student’s parents. The 529 plan will then be reported as an asset on
the FAFSA but qualified distributions will be ignored. The other
solution is to wait until the student’s senior year in college to take
a distribution, since there will be no subsequent year’s aid
eligibility to be affect, assuming the student doesn’t enroll in
graduate or professional school.
This treatment of grandparent-owned college savings plans applies
only to federal student aid. Approximately 250 colleges use the CSS
Financial Aid PROFILE form for awarding their own aid. This form
requires the reporting of all college savings plans that name the
student as a beneficiary.
An additional benefit of a 529 college savings plan is the value of
the plan is excluded from the grandparent’s estate. It becomes an
asset of the beneficiary upon death of the account owner. The only
exception is for five-year gift-tax averaging for lump sum
contributions, which is included in the estate on a prorated basis if
the grandparent dies during the five-year period.
Grandparents can also contribute directly to a 529 college savings
plan owned by a grandchild’s parent. This will be treated as a parent
asset on the FAFSA.
CollegeInvest, the Colorado state 529 college savings plan, has an
annual Grandparents Scholarship promotion where they give away 10 $2,500 college savings plans
to Colorado grandparents.
Gifts to the Parents and Students
If a grandparent gives a gift to a parent, it is not reported as
income (taxed or untaxed) on the FAFSA. If the grandparent gives the
money to the grandchild, however, it is treated as untaxed income and
affects aid eligibility (by as much as 50%).
One workaround is to wait until after the grandchild graduates and
then give a graduation present to help pay off the grandchild’s
education loans. Since this gift occurs after college graduation, it
will not affect the grandchild’s eligibility for need-based aid.
Giving Directly to the College
Many personal finance and tax experts recommend giving money directly
to the college to avoid gift taxes. This is bad advice for most
families because it hurts eligibility for need-based financial aid.
It should only be considered if the family does not qualify for
need-based financial aid and the annual gift tax exclusion is
insufficient.
Section 2503(e) of the Internal Revenue Code provides a gift tax
exclusion for money paid directly to an education institution to pay
for tuition on behalf of a student. However, the exclusion is limited
to amounts paid for tuition (not room and board or other expenses) and
the payment does not count as a charitable contribution.
The potential gift tax savings will also be much less than the
negative impact on need-based aid, yielding no net benefit to the
student. Moreover, with the annual gift tax exclusion at $13,000
($26,000 joint) in 2009, it doesn’t seem like it is really necessary
to make the payment directly to the college.
Direct payments to the college will be treated unfavorably by federal
need analysis. It cannot be treated as just a payment on the student’s
account because eligibility for the gift tax exclusion is dependent on
the amount being paid for tuition. There are two possible approaches
based on the statute and regulations. One approach treats the payment
as untaxed income to the child (i.e., cash support within the scope of
section 480(b) of the Higher Education Act of 1965). This reduces
need-based aid by 50% of the amount of the direct payment. Another
approach treats the payment as a resource (i.e., estimated financial
assistance within the scope of the regulations at 34 CFR
673.5(c)(1)(xiii)). This reduces need-based aid by 100% of the amount
of the direct payment, dollar for dollar.
Student Loans
Grandparents are not eligible to borrow from the Federal Parent PLUS loan
program unless they have formally adopted the grandchild. A legal
guardianship is not sufficient.
Grandparents can, however, cosign private student loans on behalf of
their grandchildren. Yet they should be cautious about cosigning on
any loans, as this makes them just as responsible for repaying the
loan as the student borrower. The lenders use fairly minimal credit
underwriting standards for cosigners, such as a minimal threshold on
annual income. They do not currently use debt-to-income ratios. This
means that a grandparent on fixed income might end up obligated on
private student loans for amounts that are far greater than what they
can afford to repay. If the student defaults on the loan, or is even a
month delinquent, the lender can seek repayment from the
cosigner. This may put the grandparents in a difficult financial
situation.
Roth IRA
Grandparents who own a Roth IRA can name their grandchildren as
primary beneficiaries. While the Roth IRA will be included in the
grandparent’s taxable estate and so be subject to federal estate tax,
in many cases the Roth IRA will pass to the grandchildren tax free if the
total estate is less than the unused portion of the unified credit.
The grandchildren can then avoid the
10% early distribution penalty and withdraw earnings tax-free even if
they are under age 59-1/2. (For all distributions to be tax-free, a Roth
IRA must have existed for at least five years before the
distribution. Otherwise the earnings the accumulate after the
contribution to the Roth IRA will be taxable.) Usually the grandchild
must take a distribution of the entire amount by the end of the fifth
year following the previous owner’s death. But until the grandchild
takes a distribution, the Roth IRA is disregarded as an asset on the
FAFSA. Distributions will count as untaxed income on the FAFSA,
affecting the subsequent year’s federal student aid eligibility.
Source: Fastweb
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