Figuring out how to fund a college education can be a challenge. But for grandparents eager to support their grandchild’s academic dreams, there are several options available.
From tax-advantaged plans to trusts, this article breaks down the best ways for grandparents to invest in their grandchild’s future. Dive in to explore your options!
⇒ Important Note:
- Always consult with a financial advisor or tax professional before making any decisions.
Best Ways to Help Your Grandchildren Pay for College
⇒ Quick Answer:
To assist your grandchildren with college expenses, consider these options: 529 Plans, direct tuition payments, UGMA/UTMA accounts, monetary gifts, setting up an educational trust, or co-signing a student loan.
529 Plans
529 Plans are tax-advantaged savings plans specifically for education expenses.
Money grows tax-free and can be withdrawn tax-free if used for qualified education expenses.
Named after Section 529 of the Internal Revenue Code, these plans are sponsored by states, state agencies, or educational institutions.
Types of 529 Plans
- Prepaid Tuition Plans
These let you buy units or credits at participating colleges and universities at current prices for future tuition. It’s a way to lock in current tuition rates.
- Education Savings Plans
These are investment accounts where your money can be put into various investment options. The funds can be used for tuition, room, board, and other education-related expenses.
Benefits of 529 Plans
- Tax Advantages
Earnings in a 529 Plan grow federal tax-free and won’t be taxed when the money is taken out for qualified education expenses.
Many states offer tax breaks for residents, like deductions or credits for 529 Plan contributions.
- Flexibility
If the beneficiary decides not to go to college or gets a scholarship, you can change the beneficiary to another family member.
What Is the Best 529 Plan For Me?
Choosing between a Prepaid Tuition Plan and an Education Savings Plan depends on your specific needs and goals.
Here are some steps and considerations to help guide your decision:
- Your State’s Plan
Check if your state offers tax benefits for contributing to a 529 Plan.
Don’t limit yourself to just your state’s plan. There might be another state’s 529 Plan that fits your needs better.
- Fees and Costs
Look at the fee structure of each plan. It’s crucial to understand these fees before investing.
- Investment Options
Review the investment portfolios each plan offers. Some plans offer age-based portfolios that adjust risk as the beneficiary gets closer to college age.
Each 529 Plan has its own set of investment options, and it’s essential to choose one that aligns with your risk tolerance and investment goals.
- Flexibility
Some plans might offer benefits like low minimum contribution limits or high maximum limits.
- Usage
Ensure the plan doesn’t have restrictions on which schools or educational programs the funds can be used for.
Ideally, you’d want a plan that allows for a wide range of educational institutions, including trade schools or international universities.
- Potential Penalties
Understand the penalties if the funds are not used for qualified educational expenses.
- Impact on Financial Aid
While 529 Plans have a relatively minimal impact on federal financial aid, they can still reduce the beneficiary’s aid package.
In the majority of situations, a 529 plan will have a limited impact on the financial aid your grandchild receives.
Always consult with a financial advisor or tax professional before deciding which 529 Plan is the best solution for your needs.
Direct Payment
Direct payments refer to when grandparents directly pay the college or university for their grandchild’s tuition fees.
Instead of giving money to the grandchild or their parents, the grandparent sends the payment straight to the educational institution.
The money covers only the tuition fees.
Paying the school directly can avoid any gift tax complications.
Since the payment goes directly to the institution, the funds are used for the intended educational purpose immediately.
It is worth mentioning that direct payments typically don’t count as the student’s income or asset, so they’re less likely to affect the student’s eligibility for financial aid. But that’s not always the case.
Once the payment is made, there’s no taking it back. If the grandchild decides to transfer schools or drop out, the money can’t be redirected.
UGMA/UTMA Accounts
UGMA (Uniform Gifts to Minors Act) and UTMA (Uniform Transfers to Minors Act) are custodial accounts used to hold and protect assets for minors until they reach the age of majority in their state, which is typically 18 or 21.
Unlike 529 Plans, which are specifically for education, UGMA/UTMA accounts can be used for any purpose that benefits the child.
This includes college expenses, but also things like buying a car or starting a business.
Once the child reaches the age of majority, they gain full control over the account and can use the funds however they wish.
Assets in UGMA/UTMA accounts are considered the student’s assets when calculating financial aid. This means they can significantly reduce the amount of aid a student is eligible for.
Gifts
In the context of college funding, grandparents can give money directly to their grandchildren or their parents to help cover educational expenses.
Each year, you can gift up to $15,000 without incurring a gift tax. Over a few years, this can add up.
Gifting is straightforward. No need to set up special accounts or navigate complex rules.
The gifted money is immediately available for use, whether for tuition, room and board, books, or other expenses.
Money gifted to a student could be considered income for the student, potentially reducing their eligibility for financial aid. It’s often recommended to gift to the parents to lessen this impact.
Trusts
Establishing an educational trust is another method grandparents can use to support their grandchild’s college journey, though it’s more complex.
An educational trust is a legal arrangement where funds or assets are set aside and held by a trustee for the specific purpose of funding a beneficiary’s education.
The terms of the trust dictate how the funds are to be used, ensuring they’re spent on education-related expenses.
The trust ensures funds are used for educational purposes as defined by the grantor.
Unlike 529 plans, educational trusts don’t have tax advantages for contributions or earnings.
Trust distributions for a student’s benefit can reduce eligibility for need-based financial aid.
Setting up a trust can be more complex and costly than other options.
Due to its complexity, it’s vital to work with legal and financial professionals when establishing and managing the trust.
Loans
While not ideal, grandparents can co-sign student loans. However, you’ll be responsible if the student can’t repay.
Essentially, you’re vouching for the student’s ability to repay the loan.
If the student fails to make the necessary payments, the co-signer becomes responsible for the debt.
Students often don’t have a credit history. A grandparent’s established credit can increase the likelihood of loan approval.
With a co-signer’s good credit, the loan might come with a lower interest rate.
If the student defaults, misses payments or is late, the grandparent is on the hook.
The co-signed loan appears on the grandparent’s credit report. It might affect their ability to borrow money for other purposes since lenders see it as a liability.
Keep in mind that money matters can strain relationships. If repayment becomes an issue, it could lead to tension between the grandparent and grandchild.
Always consider consulting with a financial advisor to understand the best approach for your specific situation.