FAFSA and Estate Planning: Smart Strategies for Maximizing Financial Aid

Preparing for college costs involves understanding the connection between financial aid and estate planning. This guide explains how asset ownership affects aid eligibility, provides actionable strategies to improve your chances of receiving aid, and outlines estate planning tools to safeguard your wealth while supporting your child’s education.

Understanding FAFSA and Asset Ownership

The Free Application for Federal Student Aid (FAFSA) determines a student’s financial need by analyzing factors like family income and assets. However, the treatment of assets depends on who owns them—parent, student, or a third party—which can significantly impact aid eligibility.

Here’s the key takeaway: FAFSA assesses up to 5.64% of parent-owned assets but a steep 20% of student-owned assets when calculating the Expected Family Contribution (EFC). Keeping assets out of your child’s name can substantially improve their chances of receiving aid.

For example:

• Parent-owned assets like savings accounts, investments, or 529 college savings plans are assessed at a lower rate.

• Student-owned assets, such as those in UGMA or UTMA custodial accounts, are assessed more heavily. A $10,000 custodial account could reduce aid eligibility by $2,000.

While ownership of existing custodial accounts cannot legally be changed, future savings can be redirected to parent-owned accounts or 529 plans to minimize the impact.

Third-party-owned assets, like a grandparent-owned 529 plan, are treated differently. FAFSA doesn’t consider the asset itself, but any distributions are treated as student income the following year, which can be assessed at up to 50%.

Integrating Estate Planning with FAFSA Strategy

Proper estate planning can help reduce the impact of assets on financial aid eligibility. Consider these strategies:

1. Irrevocable Trusts
   While irrevocable trusts can protect assets from taxes, they are considered for FAFSA if the student or parent is a beneficiary. Only the beneficiary’s proportional share needs to be reported, but any income distributed to the student may be assessed at up to 50%. Use these trusts carefully to avoid unintended impacts.

2. Leverage Retirement Accounts
   Retirement accounts like 401(k)s, IRAs, and Roth IRAs are excluded from FAFSA calculations. Contributing to these accounts not only secures your financial future but also shields assets from financial aid assessment.

Pro Tip: If you have extra savings that would be counted on FAFSA, allocate them to your retirement accounts to reduce reportable assets.

1. Reduce Reportable Assets by Paying Off Debt
   Using liquid assets to pay off debts like mortgages or student loans can lower your reportable assets without compromising your financial stability. FAFSA doesn’t count home equity or debt balances, making this a smart move.

2. Strategic Timing of Financial Moves
   FAFSA evaluates your finances as of the filing date. If you anticipate selling investments or receiving a bonus, consider timing these events for after filing FAFSA to avoid inflating your income or assets for that year.

Steps You Can Take Now

Here are practical actions to start preparing:

• Review Asset Ownership: Make a detailed inventory of all assets and their ownership. Pay close attention to accounts owned by your student or held in trusts.

• Redirect Savings: Prioritize 529 plans owned by parents and avoid accumulating large sums in custodial accounts.

• Develop an Estate Plan: Collaborate with an expert to create a comprehensive plan that may include trusts or other asset-protection strategies.

• Maximize Retirement Contributions: Increase contributions to your 401(k) or IRA to lower your countable assets.

• Plan for Income Events: Be mindful of the timing of bonuses, stock sales, or other significant income events to avoid affecting your FAFSA profile.

The Bottom Line

Navigating estate planning and FAFSA can be challenging, but thoughtful preparation can yield significant benefits. By understanding how asset ownership impacts aid eligibility and implementing strategic financial moves, you can protect your family’s wealth and maximize financial aid opportunities.

With careful planning, you’ll be ready when your child’s acceptance letter arrives—complete with a strong financial aid package that reflects your efforts.