It’s no secret that the cost of a good education has become quite expensive. This has happened on both ends of the equation: On the expense side, the actual cost of tuition, room and board has increased dramatically in recent decades, but also on the funding side, we have seen state spending (need-based aid) on post-secondary education remain at historic lows since 2007-2008. This “double-whammy” has subsequently caused borrowing to explode and we see college graduates coming into the workforce with student loan debts that are extraordinarily high. This will no doubt hamper the future graduates’ ability to buy homes, start families, etc. and could therefore damage the overall economy, or at the very least, put undue stress on it.
What tools can we use to offset this problem you ask? Like most long-term problems, the solve here comes from planning ahead. Starting the conversation early, saving through appropriate methods and amounts, maintaining an awareness of potential tax benefits, and encouraging our students to set goals and keep focused on their goals can all help.
Depending on the parental and family situation, an early conversation with your student regarding this concept can help set expectations for both the student and the rest of the family. Informing students as early as possible that there is going to be a budget, whether that is $0 contribution toward college, or a significant contribution toward college, helps the student understand the parameters of college life. Perhaps they will come to understand that a 2-year or technical school may be the most economical way for them to begin pursuing a degree after high school. High School Guidance Counselors are indispensable in these matters. Begin these conversations as soon as your student shows a desire to pursue education past high school.
Even before the conversation with your student, a proactive parent may want to implement a savings strategy that will help offset the immediate financial blow that happens when students decide to attend college. There are tax-advantaged savings plans for educational costs. The most commonly used plan is the 529 Plan. A 529 plan is an investment account that can grow tax-free if the proceeds are used by the beneficiary for qualified education expenses, which include college tuition, room, board and some other qualified expenses. These plans can be found by talking with a financial advisor, or in many cases, online. Keep in mind, the plans offered vary by state, and you should compare plans to make the best choice for your needs. 529 plans are perfect for parents or grandparents who want to “prefund” an education. Most plans take monthly deposits of as little as $15/month, so family members can start saving at the birth of a child and save as little or as much as possible very conveniently.
Taxpayers with qualified education expenses may also qualify for a number of tax benefits. The American Opportunity Tax Credit and the Lifetime Learning Credit can provide tax savings of up to $2,500 and $2,000 respectively. For families who don’t have college savings accounts, tax credits can provide much needed relief for current year costs. For families with college savings, proper coordination is imperative. Qualified education expenses can’t be double counted. That is, expenses that qualify for tax-free 529 withdrawals cannot also be used to qualify for a tax credit. Consider a family that has saved half of the cost of a four-year degree in a 529 plan. If they were to pay all costs out of the 529 for the first two years, and use loans to cover the last two years, then only the last two years of education expenses could qualify for tax credits. However, if they were to pay half of the tuition each year from the 529 and take small loans each year to cover the balance, then they could qualify for tax credits all four years. The tax savings realized each year could be used to pay off a portion of the loans or go toward tuition for the following school year. Individuals who are currently paying off their student loans may also qualify for another tax benefit. Student loan interest paid is deductible up to $2,500 per year for taxpayers that qualify. Effective tax planning that spans from the early stages of saving to payments in college and beyond, can reduce your out-of-pocket costs by thousands of dollars. Consult with your tax preparer for specifics on your unique situation.
Finally, it is a great idea to encourage students to set educational goals and to maintain a focus on their goals as they move through primary and secondary school. While the need-based aid provided through state budgets has been stuck at historic lows for the past decade, many schools are able to provide competitive students with merit-based aid that eases the burden dramatically. Most, if not all, universities and colleges will offer a Net Cost Calculator on their website. A student can enter the specifics of their High School GPA along with their College Entrance Exam scores and immediately find out what merit-based scholarship amount would be achieved. This is a great motivator to the student who wants to avoid paying back large student loans after college, as they can see the scholarship amount that a nice lofty Grade Point Average and ACT score will do for them! Once this detail has been revealed, the student should begin working toward the higher grades in class, and perhaps engage in some preparatory ACT classes to help them score higher on that entrance exam. Again, starting early is a key, as the GPA the colleges will look at begins with the Freshman year of high school. Further, a student can take the ACT as many times as they want, attempting to get the highest overall scores. With these Merit-based scholarships amounting to $8,000-$15,000 per year or more, the hard work and perseverance of the student will pay off!