If you’re a grandparent, you’ve probably thought about helping your grandchildren pay for college. The cost of college tuition has risen sharply since the days when your own children went to school, straining family finances and forcing many students to take out loans.
One option that’s popular with grandparents is to invest in a 529 college savings plan. These plans, sponsored by most states, provide a tax-efficient way to save for your grandchild’s college education. Investment earnings grow tax-free, and withdrawals aren’t taxed as long as the money is used for qualified expenses. In addition, 33 states and the District of Columbia offer deductions or other tax breaks for contributions to a 529 plan.
Money in a 529 plan isn’t counted as an asset on the FAFSA application, which is used to determine a student’s eligibility for financial aid. However, when you take withdrawals to pay for your grandchild’s college expenses, that money is treated as the child’s income and could reduce financial aid for the following year. To get around this problem, postpone withdrawals until your grandchild is a college junior and has filed the FAFSA for the last time. If your grandchild needs the money earlier, consider switching ownership to the child’s parents. Distributions from a parent-owned 529 aren’t counted as income.
Another option is to pay your grandchild’s tuition directly to the school. Tuition payments aren’t considered taxable gifts, so you don’t have to file a gift tax return, even if the amount exceeds the annual limit. Direct gifts will reduce or eliminate your grandchild’s eligibility for financial aid, so don’t make them unless your grandchild is ineligible for aid or is a college junior.
Finally, an option that won’t have any impact on financial aid is to help your grandchild repay student loans. Co-signing for a private student loan is usually a bad idea because you’ll be on the hook if your grandchild defaults. Instead, encourage your grandchild to take out federal student loans, which don’t require a co-signer. After your grandchild graduates, you can help repay them. To avoid having to file a gift tax return, limit your loan repayments to $14,000 a year, or $28,000 if you’re married.
Copyright 2015 The Kiplinger Washington Editors
This article was written by Sandra Block, Senior Associate Editor and Kiplinger’s Personal Finance from Kiplinger and was legally licensed through the NewsCred publisher network.