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What Families Need to Know About How Financial Aid for College Works

Many parents worry about how they’ll pay their teenager’s college tuition bill, but most don’t take the time to understand how financial aid works until late in their teenager’s senior year of high school (when it’s time to fill it out forms like the FAFSA and CSS Financial Aid Profile Form).

That’s a mistake. In fact, understanding how college’s award aid early in your teenager’s high school career—and, at a minimum, by fall of junior year—can often help improve your family’s eligibility for need-based aid (yes, even if you’re high income). Your Teen recently caught up with Mark Kantrowitz, a leading national expert on financial aid and co-author of Filing the FAFSA, to find out just what parents need to know for understanding financial aid.

Understanding Financial Aid

Q: What is the FAFSA?

Kantrowitz: The FAFSA is the Free Application for Federal Student Aid. It’s an application form that is used to apply for financial aid from the federal government, the state government, and all but about 200 mostly private colleges and universities. Those 200 colleges use a different form called the CSS Financial Aid Profile Form to have the students apply for financial aid. But even at those schools, families still must use the FAFSA to apply for federal and state aid.

Q: You say parents should file the FAFSA early. Why?

Kantrowitz: You must file the FAFSA on or after January 1 of the senior year of high school and each subsequent year. But it’s a good idea to file the form as soon as possible after January 1. Don’t wait until you file your federal income tax return or until your teenager has been admitted to a college or university.

Here’s why. Although the federal government has an 18 month financial aid application cycle, the states have very early deadlines. There are nine states that award their financial aid on a first come, first serve basis until the money runs out. There are three states with February deadlines and three states, at least, with March deadlines. Students who file the FAFSA in January, February, and March on average will get more than twice as much grant money as students who file the FAFSA later in the year. That’s because they don’t miss these deadlines.

Q: You also recommend parents think about the FAFSA well before senior year. 

Kantrowitz: It’s worth paying attention to the FAFSA before the junior year in high school because the FAFSA basis its estimate of your family’s ability to pay [for college] on your family’s income and assets. Assets are snapshotted as of the date you file the FAFSA—which will be your teenager’s senior year. But income is based on the prior calendar year’s income, which starts January 1 of your teenager’s junior year.

This base year has a significant impact on aid eligibility. If you have higher income that year, it’s going to reduce your eligibility for need-based aid. That means you need to be careful starting January 1 of the junior year in high school to not artificially increase your income. You don’t want to realize capital gains. Or if you are going to realize capital gains, you want to offset them with losses.

Q: What if a teenager has assets in their own name? 

Kantrowitz: It’s a really bad idea when it comes to filing the FAFSA because child assets are assessed more heavily. Some parents decide to fix this by rolling it over into a 529 college savings plan, which will treat those assets as though it were a parent’s asset. The problem with that is that contributions to a 529 plan must be made in cash. This means you need to sell the stock in the brokerage account. That can lead to capital gains. And if the capital gains occur during the base year, you have just artificially increased your income. So trying to fix these things earlier is better than waiting until the last minute.

Q: What kind of financial aid does filling out the FAFSA make a family eligible for?

Kantrowitz: Aid from the federal government, state government, and the colleges themselves. It breaks down into two types of aid: gift aid and self-help aid. Gift aid is money that does not need to be earned or repaid. It’s grants, it’s scholarships, it’s tuition waivers. It’s free money to help you pay for college. This is what is going to reduce your cost of college.

Self-help aid is money like loans, which have to be repaid usually with interest. Self-help aid is also student employment, like federal work study. A lot of times federal work study just gives students walking around money. It’s typically not used by families to pay for tuition. So it’s important to understand that self-help aid is not cutting your college costs. It’s money your child has to earn by working. Or it provides cash flow assistance in the form of loans, which allow you to spread the costs over time.

Q: Give us some examples?

Kantrowitz: The Federal Pell Grant is the largest grant program out there. It’s a need-based grant program for families earning less than $60,000 a year. There’s also a smaller grant program, called FSEOG (Federal Supplemental Educational Opportunity Grant) for low-income students with significant financial need. There are federal student loans, like the Federal Perkins Loan, the Federal Stafford Loan, and the Federal PLUS Loan, which is a parent loan. There is federal work study, which is a student employment program. States also have grant and loan programs, but typically not student employment programs. Colleges offer all different types of aid.

Q: Let’s talk about Expected Family Contribution. What does this mean?

Kantrowitz: When you file the FAFSA, you will get back what is called a Student Aid Report (SAR). This is a summary of the data you’ve provided in the FAFSA, as well as your Expected Family Contribution (EFC). The EFC is a measure of your family’s financial strength as determined by the FAFSA. Colleges receive a copy of the SAR data. Their copy is called an ISER (Institutional Student Information Record). The institution will use the ISER to put together a financial aid package for an applicant. This takes the aid from all the sources: federal aid, state aid, and the institution’s own financial aid funds. They will send you a financial aid award letter that summarizes all the aid that is available to you.

Q: What should we understand about the award letter?

Kantrowitz: Remember it will include both gift aid and self-help aid. Take the time to understand what’s being offered. As we talked about, self-help aid (loans and student employment) need to be paid back and/or earned. They do not lower the cost of college. Gift aid (grants and scholarships) do not need to be paid back. Those do lower your costs.

Also, you do have the right to turn down some forms of financial aid. You could say: “I don’t want my child doing student employment because it impacts her grades.” By the way, there is research that shows that a student who works full time will be half as likely to graduate. But someone who works less than 12 hours a week is more likely to graduate than someone who does not work at all. The hypothesis is that this teaches time management skills. Understand that if you turn down one form of financial aid, the institution is not going to increase the other forms of aid.

Q: Higher-income families sometimes don’t fill out the FAFSA because they believe they won’t qualify for any need-based aid. Are they right?

Kantrowitz: That’s a mistake. Everyone should file the FAFSA every single year, even if they got nothing last year. First of all, the FAFSA is a prerequisite for getting the low-cost federal education loans. So if you want your child to have some skin in the game and have some loans, as long as it’s a reasonable amount of debt, the only way to do that is to file the FAFSA. The federal Stafford loan and the Parent PLUS loan do not depend on financial need, so even if you are Bill Gates, you can get those loans.

Also, the FAFSA formulas are very complicated and they change every year. There are two main ways that even a wealthier family can qualify for need-based financial aid. The first is that the number of children in college has a very big impact on a family’s EFC. This is an approximation, but the parent contribution part of the EFC is divided by the number of children in college. That means going from one child in college to two children in college is the equivalent of dividing the parent income in half. If you have three children in college, it’s like dividing the parent income into thirds.

And that’s because the FAFSA is heavily weighted toward income. It’s focused more on cash flow than on financial assets. Just because you have two children in college does not mean you have twice as much money in income to pay for it. The typical pattern I see is a parent will file the FAFSA when their eldest child enrolls in college and they won’t get anything. The next year comes around and they say, “Why bother?” But that year, they have two children in college and they might have qualified for substantial amounts of financial aid. That’s why it’s important to file the FAFSA every single year.

The other aspect of this is that financial aid is based on financial need. Financial need is defined as the difference between the cost of attendance and the EFC. Cost of attendance is the tuition, fees, room and board, books and supplies, transport to and from school and miscellaneous or personal expenses. A family that would not get financial aid at an in-state public college that costs $25,000 a year may very well qualify for aid at a more expensive school that that costs $50,000 or $60,000 a year.

When families come to me and say, “Is it worth filling it out?” I say two things: If you’ve got one child, you’re earning more than $350,000 a year, and you have a million dollar trust fund, you probably don’t need to file the FAFSA unless you want the loans. Or if your pocket change is such that you can pay the full cost of education without blinking, you probably don’t need to file the FAFSA. Everyone else should file the FAFSA.

Q: In other words, eligibility for need-based aid is highly individual? 

Kantrowitz: Yes, it is. It depends on income and assets, age of the older parent, cost of the college, number of children in college at the same time. Any of these factors can make a big difference, as do financial circumstances that may be unique to your family.

Q: Such as?

Kantrowitz: Anything that sets you apart from the typical family. Say you have a major change in finances from one year to the next. You can ask for a financial aid appeal from the school and the school then has the authority to modify the data elements on the FAFSA to compensate for those special circumstances.

For example, you had a high paying job last year and then you got laid off. And this year you don’t yet have a job, so you’re only getting unemployment and severance pay. That’s a big change, so the school might switch you from last year’s income to an estimate of this year’s income. Or you got a huge pay cut. Maybe you had a one time bonus you’re not going to get this year. Or you had high unreimbursed medical expenses this year. The schools may react to that by reducing your income based on that expense. Or you may have a special needs child or elderly parent and you’re paying for their care, which can be very expensive.

Q: What about merit aid, which are scholarships that are based on grades, athletics, and so on and not based on financial need?

Kantrowitz: The interesting thing is I’ve found that families tend to underestimate eligibility for need-based aid and overestimate eligibility for merit aid. They think their child is going to get a free ride based on merit scholarships, when in fact less than 0.3 percent of undergraduates have paid for their entire cost of attendance this way. The parents often say, “My child is a valedictorian. He’s got a 4.0 GPA.” Well there are 28,000 valedictorians and salutatorians each year. That is not really going to set an applicant apart. The 4.0 GPA … there are a lot of people with 4.0 GPAs. Merit scholarships are part of the plan for paying for college, but they’re not all of the plan.

Q: What happens when parents are divorced?

Kantrowitz: If a child’s parents are divorced, only one parent is responsible for completing the FAFSA. It’s the parent with whom the child lived the most during the 12 months ending on the FAFSA application date. If it’s an equal split of custody, then it goes by whichever parent provided more support to the student. But to some extent families have control over who fills in the FAFSA. To the extent they can make it the parent with the lower income, they will qualify for more financial aid. They can do that by modifying the custody arrangement or controlling which date you filed the FAFSA versus how many nights the student slept at each parent’s house.

There’s a caveat to this. If the custodial parent—that is, the parent responsible for filling out the FAFSA—has remarried, the step parent’s income and assets must also be reported on the FAFSA. But it’s not always that a step parent will cause the EFC to go up and the need-based aid to go down. For example, if that step parent has children for whom he/she’s providing more than half support, those children can be counted in household size on the FAFSA, even if they don’t live with the family. If any of those children are in college, they also get to be counted in the number-in-college figure. Also, if you’re receiving child support, that does count as income on the FAFSA.

Q: Other mistakes families make with the FAFSA?

Kantrowitz: Not filing the FAFSA is a big mistake. Filing the FAFSA late is a big mistake. Another common mistake is this: There’s a question that asks for investments and I’ve seen families put down their retirement funds or the net worth of their family home. The FAFSA does not consider the net worth of the family home or money in qualified retirement accounts to be reportable assets. So if you incorrectly include your retirement plan account as an investment, you can have a big impact on your EFC.

Q: Why do 200-plus schools use the CSS Financial Aid Profile Form?

Kantrowitz: The schools that use it are doing it because they are chasing after a certain sense of precision when it comes to understanding an applicant’s financial picture. For example, the Profile form looks at both parents’ income in the case of divorce. The more elite colleges, the ones with bigger financial aid budgets, tend to use the Profile form.

Q: What financial information do parents need to fill out the FAFSA?

Kantrowitz: You need your assets. Again, the assets not reported are the net worth of your family home, qualified retirement plan accounts (IRAs, Keoghs, 401Ks, etc.), or any small businesses that are owned and controlled by the family. Owned and controlled means more than 50 percent ownership and by small business, and they mean less than 100 full-time employees.

What does count? Investment real estate, like a vacation home or rentals. Bank and brokerage account statements. Age of the older parent. Student’s driver’s license number if they have one. The number of family members and number of children in college.

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