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How to Pay for College After Divorce

dollar-1974694__480_pixabay Because I’m often asked as a part of my divorce financial planning practice, I will be addressing the question of how to pay for college after divorce as part of an occasional series.

Oftentimes, lawyers and their clients do not adequately address how to pay for college after divorce in the divorce settlement.  This is one thing that I stress to clients and their attorneys.  It’s better to close the loopholes early in the process so that everyone is clear about who will pay how much for how long and how will it be calculated. Too often there is little consideration given to how a divorce settlement will impact the Expected Family Contribution (EFC) and potential financial aid.

How to Use 529 Plans & ESAs

How you use 529 Plans and Education Savings Accounts (ESAs) will depend on a number factors.  First among these is the type of school your sons will be applying to because of the type of financial aid form that may be needed. Answering this question will provide the framework on how to use the assets and how to have them titled.

Ideally, these questions would have been addressed prior to submitting any financial aid forms but unfortunately parents wait until just before a student is ready to step on campus to seek guidance.

Lower Your Income to Skip Asset Reporting

If you have students who are going to attend colleges that accept the FAFSA financial aid form, then you’re only going to disclose your assets and income as the custodial parent.  If you could manipulate your income to keep your Adjusted Gross Income (AGI) below $50,000 then none of the assets would be counted. So, if you received a large property settlement as part of the divorce, you may find that none of this is counted in financial aid by doing a little income and tax planning before the year of filing.

Base Year Income

Ideally, this is done in the student’s Base Year which as of October 2016 will be the tax year two years before matriculating (or the year the student is a high school sophomore). But since financial aid forms need to be filed each year, this is something to keep in mind.

Some ways to keep your income below this threshold include net operating losses from businesses (even part-time self-employment can help here), tax losses on investments, student loan interest paid and contributions to deductible IRAs. One thing that can hurt you is receiving alimony which is taxable instead of child support which is not.

529 Plans: Titling and Distributions

If the income threshold strategies are not an option, then consider titling the 529 accounts in the name of the non-custodial parent. This way the assets do not need to be disclosed for the FAFSA. If this is not possible because of acrimony, then transfer title to a grandparent or relative (preferably one without kids going to college).

To optimize your financial aid, you should not take withdrawals from the 529 until late in the game – like after junior year in college.  Why? Because distributions from 529 plans are considered ‘income’ resources assessed at the student’s higher rate which will further restrict his eligibility for needs-based financial aid.

Note on CSS Profile and ESA

If your sons are attending a private college or one that also requires the CSS Profile financial aid form, then some of these tips may not apply. Income and asset information is collected even from non-custodial parents. But even in this case it makes most sense to retitle 529 Plans to other relatives and to defer withdrawals from 529 accounts until after the last financial aid form is submitted so that it’s not counted as ‘student income’.

The ESA is on equal footing with the 529 plan when applying for federal financial aid. The account is considered an asset of the account custodian, typically the parent. Unlike the 529, withdrawals are not reported as student or parent income if it is tax-free for federal income taxes.

How to Pay for College After Divorce

While I would need to understand all the details of a specific to offer personalized advice, generally I suggest paying for college in this order:

  1. Federal subsidized and unsubsidized loans (max of $31,000 over 5 years);
  2. Cash flow from parent and student income
  3. Private loans (not PLUS loans)
  4. ESA
  5. 529 Funds parent (during the later college years)
  6. 529 Funds from parent, grandparent or non-custodian parent
  7. Home equity

 

To tailor a plan for how to pay for college after divorce that holistically looks at all income and asset sources and positions you to maximize student financial aid, you’ll need to plan ahead. Starting before you leave the courthouse with your divorce decree is a good idea. Given the complexities of the subject you should seek help from a qualified financial planning professional. Plan early and you’ll likely save on the cost of college.