13 financial aid traps

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Put away your calculators and, possibly, slide rules. Even seemingly smart financial calculations may not add up once financial aid rules are factored in. Whether they’re a product of myth or simply common pitfalls, the following mistakes succeed at one thing: They will cost you money.

Follow these moves if you’re looking to burn through college savings or incinerate any chances you have of becoming an attractive aid candidate. While the 13 strategies listed below fail to make the grade, read our experts’ explanations for the smart strategies.
1. Don’t save — it will just bite into aid.
There are at least two reasons this is an example of faulty thinking: the insane cost of borrowing and how favorably savings are weighted on aid forms.

Any time you can pay cash instead of borrowing, you’re in a winning position. Though people often look at projected college costs and give up hopes of saving the full amount, think about it this way: Any money you have stashed away will make you better off. Besides, if you can’t afford to set aside $200 per month now, how will you afford $400 per month down the road?

Mark Kantrowitz, publisher of Finaid.org, says, “Saving $200 a month for 10 years at 7 percent interest would yield $34,818.89. Borrowing the same amount at 6.8 percent interest with a 10-year term would require payments of $400.70 a month.”

And as for being penalized for saving, while the federal need analysis methodology counts a portion of the family’s assets in need determinations, it does not count all of the assets, just a fraction, according to Kantrowitz.

“The ‘just a fraction’ depends on whether it is student or parent assets. Student assets are assessed at 20 percent. A portion of parent assets are sheltered (primary residence, retirement funds, small businesses owned and controlled by the family, an asset protection allowance of roughly $40,000 to $50,000 (for median age 48) based on the age of the older parent) and any excess assets assessed on a bracketed scale with a maximum rate of 5.64 percent,” he says.

2. Don’t bother starting with 529s — it’s too late.

This gets into a bit of legalese, but 529s are treated as an asset of the account owner, not a resource, with a maximum impact on aid of 5.64 percent compared with the dollar-for-dollar weighting on assets.

Kantrowitz says: “It’s never too early or too late to start saving in 529s. The tax benefits of Section 529 college savings plans can save you money even on a short-term investment horizon. But keep the money in liquid investments, so that you can access it quickly if you need the money to pay college bills.”

3. Put savings in the student’s name to shelter them from taxes.

While this may save some money at tax time, the opposite strategy works best when applying for financial aid. “The general rule is that unless the family is completely sure the child will not qualify for need-based aid, it’s best to keep savings in the parents’ name,” says Kantrowitz.

4. Just charge it.

All debt is not created equal, at least not under financial aid rules. All the thousands of dollars you’ve run up on credit cards aren’t counted in your favor on financial formulas — in fact, credit card debt isn’t taken into consideration at all. That’s only one of the reasons it’s best to pay down balances, and auto loans if possible, to better reflect your true financial situation. Only secured debt — think mortgages — counts in the needs-analysis formula.

5. Delay stocking up on college supplies.

Maybe it’s more fun to take the wrapper off the new stereo once you’re settled into your dorm room, but if you have any big-ticket items like a computer or a car you’ll need before trotting off to college, make as many as of those purchases as possible before you file the FAFSA.

So feel free to run right out and spend your savings on a dorm fridge and microwave, but re-holster that credit card if you don’t have the funds on hand. The same advice doesn’t apply to purchases you plan on charging (see flub No. 4).

6. Withdraw money from retirement accounts.

According to Kantrowitz, besides the penalties you’ll have to pay for withdrawal, if you withdraw too much money or withdraw too early (before you file your FAFSA), it will be counted as an asset and will cut into your aid determination.

You could borrow against a 401(k) plan (you can’t borrow on an IRA), but taking the money out is bad for other reasons. By the time most parents’ children are ready for college, they most likely have only 20 more working years ahead of them.

Your children will have their whole working lives to save for retirement. So leave your retirement savings untouched — and growing.

7. Don’t negotiate.

If you have two colleges’ offers in hand, one with a better aid package than the other, check with the financial aid office of the school with the lesser offer to see if they can match or beat the better terms. It never hurts to ask, and if they want you, they may find a way to help you attend their school.

8. Take out a home equity loan instead of a line of credit.

Kantrowitz cautions: “If you get a loan and haven’t used the full amount, the remainder will be counted against you in aid determination in subsequent years. Interest payments on your line, as with a home equity loan, are tax-deductible and borrowing on your home reduces your assets.”

However, despite tax benefits, federal education loans will usually save you more money with better interest rates.

9. Get married to achieve independent status.

While it’s true that the only thing reasonably under a student’s control to achieve independent status is getting married, don’t rush off to Vegas before fall semester starts. Wedlock now would only affect eligibility in subsequent years — according to Kantrowitz, you need to say “I do” before filing the FAFSA.

10. Don’t file FAFSA if you’re not eligible for aid.

Are you really so sure you’re not eligible? The formulas are complicated enough that you can’t tell if you will qualify for aid until you submit the form, according to Kantrowitz. “Congress tinkers with the higher education benefits each year. Last year they raised loan limits for freshman and sophomore students, for example. You can use the calculators on the Finaid Web site to play a guessing game, but the key is to apply,” he says.

Applying for FAFSA will also help you avoid a related pitfall: going straight to private loans. Even if you don’t end up qualifying for Perkins and subsidized Stafford loans — which have the lowest interest rates around and the added benefit of government-paid interest while you’re in school — you might find you’re eligible for an unsubsidized Stafford loan or your parents might be able to get a PLUS loan. These options could very well be a cheaper route than private loans, Kantrowitz says. Never take out a loan without shopping first.

11. Take out a loan from a ‘recommended lender.’

While you may be tempted to snap up loans from your school’s “recommended lender” because, hey, the school checked them out first, Nancy Ziering, CCPS (Certified College Planning Specialist) and president of College and Retirement Solutions in Chatham, N.J., says: “Shop it — though the school gives the lender its stamp of approval, you might get better rates elsewhere.” The cost over the years could become quite substantial. Do your homework — it’s worth it.

12. Solicit gifts.

Hitting up Grandpa or your rich uncle (no relation to the Web site) for as much money upfront as possible might seem like a great way to find free money for school, but there are three options that might be better: delay payment, uncle can give the gifted money to your parents or have them pay your debt directly to your school.

While you shouldn’t deny your favorite aunt the joy of contributing to your education, it might work out better from a financial aid standpoint to ask relatives to delay gifts so you won’t be penalized for their generosity in financial aid determinations.

If Grammy won’t wait until after you graduate to make her contribution to your education, have her give the money to your parents instead so it won’t count as heavily against you in financial aid decisions.

The absolute best strategy would be for her to pay the college directly for your studies without impacting your student aid. Kantrowitz adds that she could also contribute to your 529 plan. Under the accelerated five-year gifting option, each grandparent can give up to $60,000 per grandchild without incurring any gift tax.

13. Apply for scholarships through one megasite or not at all.
Megasites are great. They collect scholarships from all over, saving you time. Ben Kaplan, founder of ScholarshipCoach.com and author of “How to Go to College Almost For Free,” cautions that megasite offerings are by no means exhaustive and limiting your search to these will limit your chances of winning. “The scholarship has to be well-organized to end up in the database. Smaller scholarships often are underrepresented,” he says.

The more obscure the scholarship, the fewer the contenders. And don’t assume that your grades aren’t good enough to compete. Kaplan says: “There are tens of thousands of scholarships every year that all want to reward different things. The Arts Recognition and Talent Search or project-based scholarships are not based on grades.”