Reader Beware: Not All College Finance Information is Correct

Everyone knows that you can’t count on a stock tip emailed to you from a stranger with bad grammar.  But did you know that you may not be able to count on the information provided about college finance in the popular press? College Coach finance experts, all of whom are former college financial aid officers, were surprised recently when we found serious inaccuracies in the article Four Accounts Every Parent Needs For Their Kids published by the financial advising website NerdWallet on NASDAQ.com .  We hope that sharing these errors with you—and explaining why the information is wrong—will help you begin to separate the good material from the bad material so that you can confidently prepare your college payment plan. Savings Accounts DO Impact Aid Eligibility

• “According to current government rules, kids can have up to $3,000 in a savings account in their own name without it impacting their eligibility for college cash.” - NerdWallet

This statement is simply untrue.  There is no allowance for a dependent undergraduate student’s assets in the federal financial aid formula, and most colleges attach a 20 percent assessment rate to these student savings each year.  Therefore, if a student keeps $3,000 in a savings account throughout college thinking it won’t impact aid eligibility, he could lose $600 in financial aid eligibility in his first year. UTMA and UGMA Accounts and Financial Aid

• “UTMA and UGMA accounts are tax-advantaged: the first $1,000 in interest they earn each year isn’t taxed at all; the next $1,000 is taxed at the child’s income tax rate, which is typically around 5% for most children, and earnings beyond $2,000 per year are taxed at the parent’s income tax rate.” - NerdWallet

Though the basic tax advantage of UTMA and UGMA accounts described here is accurate, the five percent tax rate quoted for children is not.  After the first $1,000 of unearned income, a dependent child with no earned income faces a 10 percent tax rate on interest, short-term capital gains, and tax-deferred account withdrawals (and zero percent on qualified dividends and long-term capital gains) up to $2,000.  Remaining income is taxed at the parents’ rate. 529 Accounts Not Funded with Pre-Tax Money

• “These [529] accounts are often compared to 401(k)s because they are funded by parents with pre-tax money and funneled into an investment that will grow over time.” - NerdWallet

529 accounts are actually funded with after-tax money—quite the opposite of 401(k) funding.  Though some states offer a state tax deduction for contributions made to a 529, there is no federal tax deduction for 529 contributions.  The tax advantage to 529s comes in the accumulation period and on the back end, where account growth is tax-deferred, and, as long as withdrawals are made for qualified educational expenses, the earnings of the account are tax-free. Excess 529 Funds Can Go to Good Use

• “…If your child decides not to go to college and you have no other children to transfer the [529] funds to, you’ll have to pay income taxes on the money you’ve saved and a 10% penalty. - NerdWallet

Though transfer among siblings is often the most practical use of 529 funds when the original beneficiary decides not to go to college, it is not the only option for parents to avoid taxation and penalties on 529 earnings.  In addition to siblings, intrafamily rollovers can be made to the parents (or other ancestors), aunts, uncles, nieces, nephews, first cousins, a spouse of the beneficiary, or spouses of any of the above family members.  Excess 529 funds can also be transferred to children of the beneficiary, allowing account owners to help finance even their grandchildren’s education. The 529 intrafamily rollover rules are much more expansive than this article would lead one to believe. Unfortunately, College Coach educators talk to many parents who have made college finance decisions based on incorrect information they found online, in the personal finance press, or from their financial advisors.  Many have lost financial aid eligibility their children might otherwise have had.  Others have found themselves unprepared because they did not understand how much financial aid was realistically available.  Parents should realize that many financial professionals lack experience in college finance, and should take care to verify what they read to ensure that their college planning decisions are guided by information provided by true college finance experts.