Creative Ways To Pay For College

by: J. Patrick Collins, CFP® , EA

For those of you planning on sending one or more children to college in the next 20 years, you no doubt have come across countless articles on 529 plans, Education IRA accounts, and financial aid eligibility found in the financial media.  While this advice is important and meaningful, I have decided to add three out-of-the-box strategies you may not hear about in the popular press.  I hope you find it useful:

1.  Income Shifting:  a popular tax strategy that is often advocated by financial planners and tax advisors is the theory of shifting income from a taxpayer in a high tax bracket, to one in a low bracket; essentially, lowering the overall tax burden.  This strategy can be implemented by parents when planning for their child’s education.  Income shifting is most likely limited to those of you who own or run some sort of business, but even for those of you who may do some side work (consulting, etc.), or own income producing assets, this can be a useful strategy.  As a business owner you are most likely in a fairly high tax bracket, therefore every dollar you earn may be taxed in excess of 30 percent.  Conversely, your child probably has little to no earnings, therefore paying next to nothing in taxes.  By paying your child an income for services rendered to the business (filing, typing, etc.) you can lower your annual income and increase your child’s (in essence you are “shifting” your income to your child in a lower bracket).

To use a real example:  if you need $10,000 to pay for the upcoming year of college, you would need to earn $14,285 to generate $10,000 in after-tax dollars (30 percent tax bracket).  If you were to give your child a job, he/she would need to earn $11,111 to generate the same after-tax dollars (10 percent tax bracket).  This represents a tax savings of $3,174 by shifting income to your child in a lower tax bracket.  This example is for illustration purposes only and is not meant to be a comprehensive analysis.

2. Capital Gains Shifting:  even if you don’t have the capacity to pay your child an income, everyone has the opportunity to gift assets to their children.  One popular strategy would be to gift an appreciated asset to your child which they would immediately sell to pay for their college costs.  Today’s tax code states that individuals in the 10-15 percent tax bracket pay a 5% tax on long-term capital gains, while all other tax brackets pay a 15% tax on long-term capital gains.  Again, using the theory that your child is in under the 15% income tax bracket (makes less than $29,050 in taxable income), he/she would be eligible for lower capital gains rates.  Let’s look at how this strategy would play out:

You need $10,000 to pay for the upcoming year of college for your daughter.  Three years ago you bought stock of a local bank which has appreciated significantly.  Your cost basis in the stock is $1,000, it is currently worth $15,000, and you plan to sell enough stock to pay for college and the capital gains taxes owed.  By selling the stock yourself you would need to liquidate $11,627 to generate the $10,000 in after-tax dollars.  Conversely, if the assets were gifted to the child, only $10,489 worth of the stock would need to be sold to generate the $10,000 in after-tax dollars.  By gifting the asset to your child you would save $1,138 in capital gains taxes.

3.  Upromise.com:  this company has negotiated with numerous vendors that a percentage of every dollar you spend on certain groceries, restaurants, gas stations, and other day-to-day expenses goes into a college account for your child.  By going to their website www.upromise.com you can input your credit and debit card information and begin earning money on selected purchases you make.  As you build up balances you can transfer that money to a 529 plan.  You can even have others sign up their credit/debit cards to benefit your child, like grandparents.  The best part about it is it’s FREE.

College costs are escalating much higher than our country’s inflation rate.  It is important you use every strategy possible to combat these rising costs. 

The information in this article is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, and does not purport to be complete and is not intended as the primary basis for financial planning or investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor.