07 Nov How will this 529 plan affect my grandchild’s financial aid for college?

Q. I have funds for my granddaughter, who is not my dependent, in a 529 bank account. She will turn 18 one month from now, so I’m thinking it is best to roll the 529 to a custodial 529 plan. What’s best for the FAFSA? And would anything change for a custodial plan once she turns 18?
— Grandma

A. Your granddaughter is lucky to have you.

There’s a lot to think about here.

First, ask yourself if you want to give up control of the 529 plan to your granddaughter when she turns 21 years old, assuming she lives in New Jersey, said Howard Hook, a certified financial planner and certified public accountant with EKS Associates in Princeton.

At that age, she can distribute funds from the custodial 529 plan account for whatever reason she wants, whether it’s related to education or not, Hook said.

This may or may not be a concern for you, but it should be considered because the funds could be used for something other than what you intended.

If you do not want her to control the account, then what’s best for FAFSA should not matter, Hook said.

So what would a change have on financial aid?

The FAFSA form calculates the amount of financial aid a student can receive by calculating the Expected Family Contribution (EFC). The EFC is based on assets as of the date the FAFSA is filed and income from two years prior to the school year the aid is being applied for, Hook said.

He said the FAFSA form looks at the student’s and their parent’s assets as of the date the FAFSA is filed. Grandparent-owned assets, including 529 plans, are not reported on the FAFSA form.

“Custodial-owned 529 plan account assets are treated as being owned by the parent and count 5.64% toward calculating the EFC,” Hook said. “Student assets, including student-owned 529 plan accounts, count 20% toward calculating the EFC.”

The FAFSA form also looks at income from the student and parent’s tax return — but not grandparents — two years prior to the filing date, Hook said. So if your granddaughter is going to be a freshman for the 2023-2024 school year, her 2021 income tax return would be used.

A child’s income over and above an allowance counts 50% towards the calculation of EFC, he said, while the parent’s income over and above the allowance counts up to 47% towards the calculation of EFC.

Grandparents’ income is not considered when calculating the EFC, Hook said, however, gifts made to the student, including any distributions from a grandparent-owned 529 plan, are included in the student’s income and would thus count 50% towards the EFC.

“A recent change in the FAFSA form would have eliminated the inclusion of grandparent’s gifts and distributions from grandparent-owned 529 plans beginning Oct. 1, 2022. However, this change has been delayed and is unlikely to go into effect until possibly the 2024-2025 school year,” Hook said.

So assuming your granddaughter is a freshman for 2023-2024, keeping the 529 plan account in your name would be beneficial from both an asset perspective because it’s not counted towards the EFC and from an income perspective, because the base income tax year would be 2021 when no distribution was taken, Hook said.

You can contrast that with rolling it into a custodial 529 plan account where 5.64% of the asset value would count towards EFC. No income would count because no distributions from the plan were made in 2021, Hook said.

“One strategy to consider would be to leave the 529 plan account in your name and wait to see when the new FAFSA form goes into effect,” he said. “If your granddaughter needs to take a student loan because you did not take a distribution from your 529 plan account, you can use up to $10,000 from the 529 plan account to pay down the student loan once she graduates.”

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This story was originally published on Nov. 7, 2022.

NJMoneyHelp.com presents certain general financial planning principles and advice, but should never be viewed as a substitute for obtaining advice from a personal professional advisor who understands your unique individual circumstances.