A Recent Modification in FAFSA Regulations Could Enhance Your Grandchildren's Eligibility for Increased Student Aid

Interested in supporting your grandchild's college education? Thanks to the FAFSA Simplification Act, which became effective last month, grandparents now have enhanced opportunities to contribute financially to their grandchild’s education.

Previously, contributions or withdrawals from a grandparent's 529 college savings plan had to be reported on FAFSA, which could affect the student beneficiary's eligibility for federal financial aid. But the recent changes have introduced significant improvements.

In this blog, we will discuss the specifics of the new rule and how grandparents can use it to aid their grandchild's educational journey.

What is a 529 College Savings Account?

Let's start with the basics: what is a 529 college savings account? This type of account is specifically created to assist individuals, including grandparents, in saving for future college costs. While contributions to a 529 account aren't deductible on federal taxes, the upside is that any earnings in the account accumulate without incurring federal taxes. Additionally, when the funds are used for qualified educational expenses, these withdrawals are not subject to federal tax.

Changes Brought by the New FAFSA Rule

Under the Free Application for Federal Student Aid (FAFSA), the entire value of a 529 plan is reported as an investment asset if the account owner is either a dependent student or their custodial parent. In the past, distributions from a grandparent-owned 529 plan were considered as the student's untaxed income, potentially impacting their eligibility for financial aid. The recent rule change, however, addresses this issue.

Simply put, a 529 plan owned by a grandparent will no longer need to be reported on the FAFSA. What's more significant is that any withdrawals from a grandparent-owned 529 plan will not be categorized as untaxed income for the student. This modification allows grandparents to assist in their grandchild's educational expenses without affecting their ability to qualify for financial aid.

Optimizing Grandparent Contributions to 529 Accounts

When contributing to a grandchild's 529 college savings plan, grandparents should consider the following key points:

1 | Usage for Qualified Educational Expenses

529 plan funds from grandparents can cover various qualified educational costs like tuition, room and board, books, supplies, laptops, and internet access. Be aware that some expenses, such as insurance, student health fees, transportation, and extracurricular activities, aren't eligible. Using 529 funds for these can lead to a 10 percent penalty.

2 | Adhering to the Annual Gift Exclusion

Grandparents contributing to a 529 plan must be mindful of the federal annual gift exclusion limit, which is the maximum amount that can be gifted without filing a gift tax return. Currently, this limit is $18,000 for individuals and $36,000 for couples filing jointly. There's an option to spread a larger one-time gift over five years to remain within the lifetime gift exclusion.

3 | Consider Direct Payments to the Institution

Payments made directly to educational institutions from a grandparent-owned 529 account don't impact the grandchild's financial aid eligibility. Presently, it's advisable to make payments directly to the grandchild.

4 | Timing of Withdrawals

Withdrawals from the 529 plan should align with the tax year of the incurred educational expenses. This ensures compliance with tax rules and smooth financial management.

5 | Monitoring Withdrawal Amounts

Withdrawals from all 529 plans should not exceed the total cost of the qualified educational expenses charged by the educational institution. Exceeding this amount could lead to a 10 percent penalty, although there's a 60-day grace period to correct excess withdrawals without incurring penalties.

Guiding Your Family's Future with Care and Compassion

The opportunity to positively influence the future of the next generation is a truly fulfilling endeavor. With the latest changes in FAFSA guidelines and smart management of 529 plans, you can significantly support your grandchild's educational journey without affecting their eligibility for financial aid. This elevates the 529 account beyond a mere financial tool; it becomes a vessel for your enduring love and wisdom.

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The content is sourced from Personal Family Lawyer® for use by Personal Family Lawyer® firms, a source believed to be providing accurate information. This material was created for educational and informational purposes only and is not intended as ERISA, tax, legal, or investment advice. If you are seeking legal advice specific to your needs, such advice services must be obtained on your own separate from this educational material.