Each spring, students and parents put the finishing touches on their college plans for the fall. After deciding which schools to attend, the next challenge is deciding how to pay for it. With the total costs of some colleges expected to exceed $60,000 a year for 2012-2013, choosing the right strategy to fund college expenses can have a significant long-term impact on both the parent and the student.
From student loans and financial aid to 529 college savings plans and home equity, there are many ways that parents attempt to pay for college.
Unfortunately, the complexities of the process can sometimes lead parents and students down the wrong path, with lasting financial consequences — significant debt. In fact, total student debt in the United States now exceeds outstanding credit-card debt for the first time in history.
Why so much debt? First, tuition expenses have jumped each year at a rate much greater than the rate of inflation, and scholarships and grants have not kept up with overall college costs.
In addition, the job market has been difficult for new grads, forcing many to go back to graduate school and incur even more debt. This has made it more difficult than ever for the student to finish college without putting both the parents and the child in a deep financial hole. As a result, many Americans should consider implementing cost-cutting measures.
College expenses should be viewed the same as an investment. For example, let’s assume that you can choose two different businesses to purchase. The first business requires an initial investment of $200,000 and is expected to generate yearly cash flow of $45,000 a year. The second business is also expected to generate $45,000 a year in cash flow, but only costs $100,000. Which would you choose to invest in?
The fact is that there are many institutions that provide high quality education for half the cost of more expensive counterparts. Students and parents need to be practical with their choices and consider choosing a college that also matches their budget and the student’s future income prospects.
According to the College Board, the federal government awarded more than $132 billion in grants, work-study funds and low-interest loans last year to help students afford college.
Loans are generally divided into types — federal student loans, including Stafford fixed-rate and Federal Perkins low-interest loans to help needy students; parent loans, including federal Parent Plus loans; and private loans.
Since federal student loans generally charge lower interest rates, they should be considered first. Consider visiting www.collegeboard.com for more information about the varieties of loans.
In addition to loans, more than $3 billion in scholarship money is available for students. While it’s no easy task, families who are willing to put in the effort may be rewarded with additional subsidies. Always start by speaking with the admissions office of the school you are considering and then review sites like www.fastweb.com that provide a database of scholarship information. Beware, though, of scholarship scams and services that charge to do the research for you.
CONSIDER A 529 PLAN
For parents who still have time to save, a 529 plan can be one of the most effective tools for college funding. The plan allows savers to put away funds that may grow federally tax-free as long as they are used for qualified college expenses. Each state has its own plan, and many offer additional incentives for saving.
Keep in mind that 529 plans are considered an asset of the parent for financial aid purposes. Consider speaking to your tax adviser and visit www.savingforcollege.com for a comparison of plans and details on the features, benefits and investment options.
While many parents feel it is their duty to pay for their children’s college experience, it is critical for parents to avoid compromising their own retirement in the process. The reality is that the student has many more years of earning potential ahead than the parents do.
Liquidating retirement accounts like 401(k) plans or withdrawing significant home equity can be a dangerous approach. Before choosing to make irreversible decisions, parents should understand the long-term effects of their choices.
Kurt J. Rossi, MBA, is a Certified Financial Planner Practitioner. He can be reached for questions at (732) 280-7550 or kurt.rossi@Independentwm.com. LPL Financial Member FINRA/SIPC.