Once a family understands the costs, they must have a strategy. Their plans should:
- Take stock of savings, income, and loans available for college spending. This includes 529s and other education-specific accounts, as well as expected contributions from relatives, the ability to spend each year from current income, and the extent to which loans will be used. It’s also important to understand which expenses qualify to offset 529 withdrawals and which can be applied toward tax credits.
- Recognize the importance of timing. Families typically use two years’ prior tax return information when filling out the application for aid. Aid status can be maintained—and maybe even improved—by spending from sources such as student assets in the early years of college, and by delaying spending that would count as student income (such as from grandparent-owned 529s) until the last two years of school, when it will no longer count against the student from an aid standpoint.
- Evaluate available tax credits. Determine which credit is available and most advantageous, and plan to spend from current income or taxable savings to the extent that this spending will qualify for the targeted credit.
- Spend flexibly from 529s. Some families may benefit from spending early from 529s to maximize the potential for financial aid in later years. For others, spreading out 529 spending will allow for continued tax-deferred growth and relieve pressure on other sources, such as loans or out-of-pocket spending.
- Fill in the gaps. Even after spending to qualify for tax benefits and spending as planned from 529 accounts, families may need more funds to pay for college. They should be mindful of taxes when spending from other accounts and determine as early as possible what loans will be needed.
To illustrate how this process works, the authors include a case study that shows how a typical family might benefit from such a plan.
“The role of 529s and other traditional college savings accounts should be considered against the broader backdrop of a family’s financial situation,” Jonathan said. “A good plan can maximize the benefits of these accounts and ensure that these assets are deployed in a way that meets college spending needs as effectively as possible.”