Having grandchildren brings all the joy of parenting back, without the sleepless nights and stress. Grandchildren are a window into the future, and you want to help make that future as bright as possible. What better way to do that than help provide for the best possible college education? You know even better than your kids how quickly a bundle of joy grows up and graduates high school.
You also know that parents of young children often have many expenses that may make it difficult for them to save for college. And if you've put your own children through college, you certainly know how fast the cost of an education is increasing. If you're at a stage of life in which you can comfortably help with your grandchildren's college expenses, here are some ways you can do so.
You've probably heard of 529 savings plans, which are offered by individual states and administered by financial institution. You can choose to open a 529 plan in your state, the state in which your grandchild lives, or in another state altogether. If someone else has already established a 529 plan for your grandchild, you may contribute to that one.
Earnings on contributions to 529 savings plans are tax-deferred. If the earnings are used to pay for the beneficiary's qualifying education expenses, they are completely tax-free at the federal level, and likely at the state level as well. (If not used for a qualifying purpose, earnings are subject to income tax and a 10% penalty.)
You can contribute as much as you wish to a 529 plan up to a generous lifetime limit. You may choose to have regular automatic payments made from your bank account to the 529, fund the plan early with a lump sum and forget about it, or make payments of whatever amount whenever you're inclined to. If you have the money and the inclination, you can make a gift of $70,000 (as an individual) or $140,000 (as a couple) to the 529. Under rules specific to the 529 plan, you are allowed to elect to have such a gift treated as if it were made in equal installments for five years. You not only remove these funds from your estate (assuming you don't die during the five year period following the gift), but you avoid federal gift tax for the gift.
If your grandchild (who is, no doubt, the brightest and best child ever) gets a scholarship and doesn't need all of the funds in the 529 plan, another grandchild can easily be made beneficiary. One caution: plan assets are treated differently for student aid and tax purposes depending on whether the account is owned by parents or grandparents; consult your financial planner for details and advice.
There are also prepaid 529 plans, which differ from the traditional 529 savings plans above and allow you to lock in tuition rates for a child at a certain institution or group of institutions in a given state. The obvious risk here is that your grandchild may want to go to a school that does not participate in the plan. Often, funds can be refunded or transferred—but find out up front, before contributing. Also, there are a decreasing number of these prepaid plans available, and some require state residency.
What if your grandchild is on the threshold of college right now, and a 529 plan won't have time to grow and bear fruit? You can always make a cash payment directly to the college for your grandchild's tuition costs. This is one way to ensure the funds are used only for education.
Because direct payment of tuition isn't considered a gift under federal law, you're not limited to making a gift of less than $14,000 (or $28,000 for a married couple) in order to avoid gift tax. Be aware, however, that only direct payment of tuition qualifies for this treatment; payment of room and board does not.
You may also want to ask the college or university how your gift is likely to affect the financial aid received by your grandchild going forward. Unless you are confident of your ability to make similar gifts throughout your grandchild's college career, making a large payment on their behalf up front could have unintended consequences for future aid.
Of course, a simple option is to simply make a cash gift to your child or grandchild. This can be a good choice if the amount you intend to give is under the $14,000/$28,000 annual threshold for gift tax. Advantages of this method include ease of administration; all you have to do is write a check.
Disadvantages include the fact that the gift might negatively affect your grandchild's financial aid package; parents and children are expected to contribute a certain percentage of their own assets (5.6% and 20%, respectively) before aid kicks in, and your gift would be considered an asset.
If you worry that a direct cash gift might not be used for your grandchild's education, but you can't yet (or don't want to) make a payment directly to a college, a trust is one way to set aside funds that will be earmarked for your grandchildren's education. Advantages to a trust are that you can remove the funds placed in the trust from your probate estate and use the trust document to set whatever terms you like, within the bounds of the law.
One advantage of a trust is that if you have multiple grandchildren, you don't need to set up a trust for each of them.
You might specify that funds can be used for tuition, fees, room and board, but not spending money or travel, for instance. (You could even, if you wish, provide for extra distributions if your grandchild goes to a favored university, and refuse to have the trust pay tuition if they select a rival institution—not that they would consider such a thing.) Another advantage of a trust is that if you have multiple grandchildren, you don't need to set up a trust for each of them. You could simply establish the "Smith Family Education Trust" for any and all grandchildren, including any who might be born after your death.
Things to think about with a trust include who will manage the funds (if you use a living trust, you can manage them during your lifetime), and what will happen to any funds remaining in the trust if your grandchildren don't use them all up or choose not to pursue higher education.
To learn more about options for helping your grandchildren pay for college, and what they could mean for taxes or your estate, we invite you to contact us to schedule a consultation.