Do’s and Don’ts for Grandparents Saving for College

Recently we had the opportunity to write for our friends at Alerstallings, attorneys specializing in estate planning and elder law with locations across Ohio including Columbus and Delaware. Check out their special workshops – “Protecting Your Assets from the Three Big Bad Wolves”.

The birth of your child is not just the big day when you become a parent, but also the big day when your parents become grandparents! Grandma and Grandpa may want to spoil their little ones in every way possible. And if you are lucky, spoiling includes saving for their college education. So what are the do’s and don’ts for grandparents who want to help financially with college and don’t want to hurt your student’s chances for need-based financial aid?

Our 5 tips at-a-glance are:

  1. Don’t jeopardize your retirement security.

  2. Know how the money you save will impact financial aid.

  3. With this knowledge, choose your saving vehicle carefully.

  4. Know the impact of UTMA and 529 plans.

  5. Communicate your goals to fund college with the student’s parents. 

Our first tip for grandparents is to not jeopardize their own retirement savings. As much as they want to help their grandchildren, their own retirement comes first.  If in the future you discover you need invested funds back for medical emergencies, you may be subject to taxes and penalties to access the funds depending on the vehicle you invest in.   

You have many savings vehicles to choose from. UTMAs and 529s are two options. Consider carefully the financial aid impact of each.

One type of custodial account is a UTMA (Uniform Trust to Minors Act). Often set up at birth, UTMA’s should not be the saving vehicle of choice if you think need based financial aid will be an option. Any funds in a UTMA account are considered assets of the student and are assessed at 20 to 25%.

If you already have a UTMA, explore the possibility of converting the account to a UTMA 529.  However, don’t make the decision to convert the fund solely to qualify for more financial aid. An entirely different set of rules apply to each type of account.  Tax implications when making this conversion must also be considered. You may be better off leaving it where it is.  Consult your tax and financial advisors to determine the cost and benefit of making this type of conversion.

529 plans are a great way to save money for education after high school. Plans are set up with one account owner, the grandparent, and one beneficiary, the student.  When a parent completes the FAFSA, Free Application for Financial Student Aid, they include the parent’s 529 plan dollars but not the grandparent’s.  Sounds like a great loophole, right? 

A word of caution though, distributions from the grandparent’s 529 plan will count against financial aid eligibility. They are considered gifts to the student and count as untaxed income with a 50% assessment. So, if you give junior $10,000 for college this year, it could reduce his financial aid eligibility by $5,000 the following year.  Depending on how much money is in the 529 plan, the grandparents could consider simply helping the student pay for their senior year of college after the student has submitted financial aid forms for the final time and aid has been distributed.

Another strategy to avoid being penalized is 529 ownership transfer to the parent’s name early in the student’s high school years. Each 529 plan is state administered, so you will need to verify that your state’s plan allows for ownership transfer. Why do that?  529 assets owned by the parent are only assessed at 5.64%--much better than 50%!

In addition if you have separate 529 plans for each grandchild in the same family, the grandparent will want to maintain ownership until each child goes to school.  ALL 529 plans owned by the parent are considered an asset when you apply for financial aid.  No sense in playing your cards until you have to! 

A final tip for grandparents when they set up a 529 is to be sure to name a successor to become the account owner if the grandparents should pass away. This simple step will save probate in the future.

Our last tip for grandparents is to communicate with your children and grandchildren about both your goals to fund college and how much you plan to help. Together you can make the wisest, most beneficial choices.

If your grandchildren will not qualify for need-based aid, you do not have to be concerned with financial aid implications.  A strategy for high net worth families beneficial to all three generations may involve intricate gifting, estate, and tax planning techniques. We will cover these in a future blog post.     

Grandparents have the best intentions to help, but if you are a candidate for need based financial aid, be aware of how a parent’s expected family contribution (EFC) is impacted.