taxguy

Let me illustrate what can be done with some planning.

I know a couple who are teachers. For years, their father put money into their grandkids names for their grandchildrens' education. This was what was recommended by accountants and financial planners for years. By the time the kids were in their junior year, the each grandchild had about $100,000 in their name.

The couple approached me about potential financial aid,which I said wouldn't be available ( at least need based aid) because of the amount of money in the kid's names, not to mentioned that any earnings above $1,800 of investment earnings will be taxed to each kid at the parent's tax bracket.

I had them contact a financial planner that I knew who advised them to put each of their kids assets into single premium life insurance. This not only paid about 4% interest ( which is not taxable until withdrawn from the policy)but also had a very low commission, which is the advantage of the right single premium life policy ( you never want to use a regular whole life policy for this because of the high commissions). I think the total costs were 2%,which were mostly the commissions.

In return, each kid qualified for substantial need based financial aid since their assets ,at the time the FASFA were filed were ZERO as was their investment income for their senior year. My friends thought that both I and their planner were heroes.

This is an outstanding example of "asset allocation."

CountingDown

Tokenadult, UGMA regulations may vary from state to state, but here, our kids get full access to the UGMA when they turn age 18. (This was a major reason why we quit funding them about ten years ago.) By the time 529s came around, DH had decided that we'd be better off saving in our own names and also building up home equity and tapping that as needed for college expenses. Oh well!

owlice

CountingDown, saving in your own names isn't a bad idea; before your first base year, you can move $60K into a parent-owned 529. (taxguy, can each parent move $60K into a 529?) CD, depending on taxguy's answer to that question, you might actually be able to set aside $120K for each child in a 529.

Tapping home equity is not a bad idea, either, especially if you do it with a HELOC, which should (if held in base year) for PROFILE schools reduce the amount of equity counted as available.

taxguy, I have to say that I have a small issue with your $100K scenario recounted above. Having $100K set aside for each child to pay for college -- the whole point of that money is to provide funds for their education, so why not use it?! I can understand why someone would feel it is .... ah.... puzzling, let's say, why a family with $100K set aside for EACH child would feel they needed, or should get, needs-based aid. And the $100K for each child wasn't even the parents' money in the first place! Seems to me they got quite a lot of financial aid already. That strikes me as possibly over the line. These kids don't really have substantial need, yet they got substantial needs-based aid. Yeah, something about that... doesn't sit right.

cptofthehouse

It is crazy, Owlice. But the thing is that if they had saved it in a different form, it would be considered usable for financial aid. By just changing the investment vehicle, the money could be kept for future education, supplemental educational cost. If the parent is slaving and stinting to save $100k for a kid, it is very unfair that he can then be severely penalized for having that money when it is not enough to pay for a private college. It allows the saver to have some awards. One of the biggest complaints about financial aid is that it rewards the "grasshopper" and punishes the "ant". It does do that to a degree. Of course the saver has the buffer and benefit and flexibility of the money, but it is nice that in circumstances where he is not in a high income bracket, but a steady, disciplined saver, that he can still get aid for his kid.

This is another very inherent flaw in FAFSA. By having some saving vehicles counted as assets for college, and not others, it is very unfair. Why should someone who has a pension plan with $100k in assets be exempt? Why should someone with $100k of home equity be exempt? And the guy with no pension, no house who put the same amount in his kid's college gets hit big time for it. Well, because it 's for the kid's college, as you pointed out, but the only difference between such a person who changes that vehicle two years before the critical year, and one who puts it in another place from the onset, is the timing in choosing the vehicle. The intent is oten the same.

owlice

cpt, frankly, the avenue taken by the teachers with $100K/child (that the parents, please note, hadn't saved, and there's nothing wrong with that, but comparisons to the ant are not valid) looks like a loophole, and I'd be surprised if there were intent to create such an avenue to avoid having that money considered. I think that's what bothers me about this. I suspect that, should this avenue be used frequently, this avenue will be closed by subsequent legislation.

It is beneficial to our society to have people able to support themselves in their old age, hence the protected status of retirement funds. There's nothing "unfair" about that. I'm already in my 50s, and S is a HS freshman; it's not as though I still have 20-30 years ahead of me to save for retirement after paying for S's college.

Home ownership is good for society, too, which is why mortgage interest gets to be deducted -- the government wants to encourage home ownership. Equity is great, but how many people can afford to tap it? I couldn't service debt that is 80% of my home's value, assuming I could even get such a loan.

There was intent to protect home equity and retirement funds; that makes a difference.

So everyone is entitled to go to an expensive private college? Is that what you are suggesting?

I'll probably have $60K available for my S's college costs, this saved over his lifetime, stinting and saving along the way; I wish it could be more! And I have NO problem with spending this money for his education -- that's what it's there for. I'll fund some of his college through income, too, in addition to the savings. (What I spend on summer camp now will be available to spend on college later.) He'll fund some of his college through work and, possibly, loans.

If what I save and what he and I can come up with beyond savings isn't enough for an expensive private college and he gets no aid of any kind... well, it's not going to be enough for an expensive private college. Is he entitled to go to one?

taxguy

Owlice, each parent can pay as much as t hey want into a section 529 fund ,but contributions to the fund are limited to the reasonably foreseeable costs of education at the time. Thus, there are limits.

In answer to your question of "Why not use the $100,000 for their kids'' education," which was funded by the grandfather, the answer is simple: they want to keep that money for other uses such as grad school, home ownership etc. . If they can get financial aid that will provide more funds overall,which means less spending on undergraduate education and more for other needs.

As for whether this will be corrected by legislation, there is a good public policy that protects cash values of life insurance.

I am sorry this doesn't "sit right with you, Owlice." My goal was to legally try to get as much money for my friends as possible. If you don't like this, please don't do it. I don't force anyone to accept my suggestions, not even my kids.

cptofthehouse

Owlice, even the college guides will tell you to spend money down in a kid's account or move it into something that the financial aid calculator does not his as hard or at all. It's acceptable college planning. There is a big difference between doing that and so many other things that are illegal and deceptive.

There are a lot of inconsistencies and unfairness in the FA process. My advice to everyone is to do what is legal to get the best deal you can get. Legality is really what dictates things in this case. This same situation comes up with elderly who have assets, and handicapped kids as they become adults. It is the job of a financial planner to let such families know how to structure their assets so that they get them most use of them, and not lose aid that is regulated. It is not considered illegal, you are even urged to learn the rules so that you are not handing the money right over to the agent, even if it was saved for that purpose, if you could qualify for other moneys by just changing some investment vehicles and some investment strategies. It's really just smart thinking.

Of course, everyone is welcome to do what he pleases, but a financial planner would be remiss if he sees money that is going to be nailed for something but would not be counted if shifted elsewhere and does not let his client know. This avenue has been open for a long time, Owlise, and is not news to anyone. In fact, they have lowered the amount that is taken from a child's savings so the hit would not be as hard for some parents who just did not know the rules and stashed everything in the child's name.

My parents were the kind who saved for our colleges at the expense of other things. It would not have been enough for most private colleges. Were we entitled? The system and the colleges seemed to think so, because the combination of merit and financial aid is what paid our way. They ended up having to use very little of our college savings for our education. They were willing to give up their future security and lifestyle for their children's education, but were fortunate that they did not have to do so. I don't think someone who's parents who had put the money into a house or pension during those years has any more right to financial aid than someone who put his money into savings plans with the intent to be able to pay as much of the college cost as he could if he had to, and the rules say he does not have to if he moves the money into another vehicle or spends it down before a certain crucial time. If the money is sitting there the day the FAFSA and other papers are filed, according to the rules, it is fair game to take it more aggresively than other funds. That's really all the rules say about such funds. Time is an element in all of this too. No reason why a parent can't save for college openly with a college fund, and then move it over to some other vehicle of savings or spend it for other than college, as long as it is not a fund specifically designated for college like the 529 plans, which though are for college are not counted by FAFSA if titled a certain way which is recommended. You see how crazy this gets.

BlackTie

I've followed this thread with great interest, but I am not familiar with FA at all. To those who experienced it, the point of asset re-allocation is to gain more aids but, if your income is high enough, than no matter what you do, it wouldn't help, would it? For instance, I ran the FA calulator on the FAFSA site, and even with zero asset, the EFC is about $28k from a family of four with a combined income of, say, $140k. That's about that for most of the public collges. Will private schools make up the difference in aids? Is it what you guys are aiming?

owlice

taxguy, my apologies; I was not faulting you for having provided the advice to your clients! I'm sorry that wasn't clear. Of course you have a fiduciary responsibility, as does the financial planner, to provide such information, and I wasn't questioning the legality of it, at all!

It seems the parents feel that their (non-needy) children are entitled to an education funded with money intended for needy children provided by others (including taxpayers). Some of those others (the grandfather) had a choice in making their contribution to those non-needy kids; others (taxpayers, donors to needs-based scholarships) didn't.

I'd be hard-pressed to come up with a reason why high-school kids need life insurance, unless it's a vehicle for protecting assets set aside for their education that they don't want to spend if they can get others to pay for their education.

As I said, I don't question the legality of this, and I don't fault you or the financial planner for doing your professional duties, but I will feel free to feel that the parents are not people I'd want to know!

More later; lunch is over!

SlitheyTove

I dunno, owlice, there might be a lot of people on CC you might not want to know, then Not that people here are buying their kids life insurance policies, just that I suspect that most of the parents would do anything they could legally to bring down their EFC. I wouldn't apply the "e" (for entitlement) word in this situation. What if the parents decided that they would not apply for need-based aid, because there were other people who were unable to save as much (if anything) towards their children's higher education. It is possible that this would enable some highly deserving young man or woman (who had studied and worked hard throughout high school, and whose family finances totally ruled out being able to save for college) to get the much-needed money.

But it's also possible that the money would go to another kid whose parents had followed the grasshopper path, or to parents who had also gotten good advice from their financial planner, or to a kid who had enough for a state school but would now be able to attend his/her dream school, or to parents whose parents gave them money to help buy a house rather than to help with college educations, or to parents who....well, you get the idea. It's not like (to make a totally trivial analogy) when I'm on a bus or subway and I offer my seat to someone who is older/in ill health/burdened with packages and/or a young child. I could similarly never take a seat because there are people who will need it more than me, but not taking the seat doesn't guarantee that someone in need will get it. More likely it'll be some young jerk on a cellphone whose briefcase pokes me in the back. If FA were set up so that I could see who was going to "get my seat", I'd be glad to be gracious about giving it up. But it's not, so I'm staying put.

cptofthehouse

Blacktie, you are absolutely right. Income is the biggest factor in getting financial aid. Big income, no assets, means no awards. You should have been saving. That is something that makes some sense. One issue that can be a problem with that facet is that there are some who have only been making that amount recently, and there are those who have been at that level for more. Past income does not play a heavy role in FA, not at all for the FAFSA.

Where asset reallocation makes the most difference is where people are close to the threshhold of qualifying for aid. If your income is below X and assets belowy Y, you are eligible. That Y represents sacrifice and savings for some families. At that income level, even if it is a windfall inheritance or family donation, these are families that are not usually living in luxury, but in middle class/working class situations.

There are exception, of course. Unfortunatel as in any system, there are those who outright lie and cheat for an advantage. To me there is a big difference between such people and those who do a responsible financial audit of themselves before entering the college app scene, and reallocate assets so that they are in better shape to get more aid.

somemom

I have not read the posts in between, so forgive me if this is redundent.....cash value in life insurance is not an asset in FAFSA, BUT if they put that money in now, thinking to take it out for loans, you have to be aware there will be surrender charges for the first 10-15-20 years of the policy based on the original target premium. They could think they were going to use those funds to pay off loans at the end of school and not have the monies available until the kid is 30 or 40!

somemom

Also, if all home equity is protected, whether that be a $100k home or a $1 million dollar home, then the person still has to afford that home- taxes, insurance, furnishings, utilities, etc. The chances of some big shot having a brand new mega expensive home and affording all that and still having income low enough to obtain financial aid is slim. I would imagine most $1 million dollar homes where the person has low enough income for financial aid would be some one in California who has lived in the house for 20+ years, has prop 13 prop tax protection, and bought the house for $100k and could not afford the home at it's new price.

Most of financial aid is based on income, if your income is above a certain level, there is simply less help there even if you hide all your assets- of course, the HYPS type schools with new formulas are in their own category; I am really addressing FAFSA schools.

swimcatsmom

Not redundant at all - I was wondering what the long term impact of using the money this way would be to the accessibility of the money (sorry that is an awful sentence -hopefully you understand what I am saying - I don't seem to have the brain power to rewrite it right now). My gut reaction to this sort of insurance is always a negative one. I like my money accessible.

goaliedad

somemom,

I was thinking something along the same line. Most life insurance products like those described are not very liquid.

So if the parents in question lock up $100K for a couple of decades, they have perhaps reduced the EFC $5600 per year (assume the parental or 529 tax rate). In return they get perhaps (if the school isn't gapping that extra $5600 because you hit max aid) a generous 50-50 mix of grant and loan (assuming work-study is already maxed). So, you get an extra $2800 in grant, but also have to take out an additional $2800 in student loans per year (because your liquid cash is tied up). And since you've probably already gotten the max subsidized loans (before the additional $5600 from the insurance bump), these loans are racking up interest.

Now look at the yield on the life insurance product. I have yet to see an insurance product that pays a yield anywhere near what a similiar investment in a low-cost mutual fund of similar risk profile. Primarily this is because, the insurance company needs to make its markup to cover its overhead (sales commission, regulatory tracking, etc).

I'd be curious to see someone do the math comparing leaving the money in a 529 in a conservative (mostly bond) mutual fund (typically used for retirees who cannot afford significant capital loss in a short term) vs. the best insurance product they can find. Even with the FA "tax", I think any advantage in gaining additional FA from a school is probably washed out by the combination of poorer yield and the loan interest for the student loans required to carry out this strategy.

FWIW, I have always been a person who does not believe in carrying any non-term life insurance. And that should only be carried until your savings can handle the loss (to your family) of your life.