Affluent Income and Tax Strategies

When planning for college, the financial advisor must be aware of the many income strategies available to increase the amount of family funds for future college costs. These income strategies may be incorporated over a short or long term period. While these strategies may not produce a direct college benefit, such as a grant or scholarship, they may produce tax benefits to the family as a whole, and therefore, increase the amount of family funds available to pay for college. To gain the maximum effect of these strategies, the financial advisor must be aware of, and understand the new education tax incentives. The combination of the income strategies and education tax incentives described in this module will enable the financial advisor to properly advise affluent clients of these college income strategies.

Because affluent clients are not eligible for financial aid, they are not penalized (20% student asset assessment versus 5.6% parent asset assessment) for shifting income and assets to their children. Therefore, they should take full advantage of a child’s lower tax bracket. Accordingly, a key strategy for the affluent is to focus on the benefits of the tax system. This will be driven by taking advantage of opportunities in the child’s tax return not available to the parent or grandparent (child’s low tax brackets, child’s personal exemption, use of lower capital gain rates, access to Coverdell Education Savings Accounts and American Opportunity Credit and Lifetime Learning credits, access to student loan interest deduction, access to the regular and Roth IRAs).

Note: The term “affluent client,” as used in this chapter (and other chapters), is defined as a client that is not eligible for financial aid. A client that is considered a middle-income taxpayer may be an affluent client under this definition. For example, a middle-income client who is sending a child to a low-cost public university may not qualify for financial aid. Therefore, the information in this chapter can be used for some middle-income clients.

There are many strategies for affluent clients to reduce the cost of college. Since affluent clients do not qualify for need-based financial aid, strategies to maximize their eligibility for merit-based scholarships should be implemented.

These strategies would include:

  1. searching for merit scholarships from private sources,
  2. searching for merit scholarships that are given by the colleges which are based on certain academic criteria (the merit scholarship scholarship search software can be used for these types of scholarships), and
  3. negotiating with colleges for merit scholarships or tuition discounts.

There are loans which are not based on the financial need of the student that are available to affluent clients, such as the Federal Unsubsidized Stafford loan, the Federal PLUS loan, and a personal residence loan.

In addition, there are academic strategies available to affluent clients. These strategies can reduce the time in college for the student. This reduction of time spent in college reduces the cost of college.

Summary of Introduction to Affluent Clients

Since college costs are paid with after-tax dollars, strategies to lower income, gift, and estate taxes can significantly reduce the cost of college for an affluent client. In addition, there are loan strategies and academic strategies that can reduce the cost of college for an affluent client. The financial advisor should also make an affluent client aware of merit scholarships, based on the student’s merit or through negotiation with the college, that are available to the student.

If the financial advisor is unsure as to whether a client is eligible for financial aid or is an affluent client, the financial advisor will have to implement a mixture of affluent and non-affluent strategies. Because the financial advisor can accurately predict the outcome of tax strategies versus the uncertainty of strategies to qualify for financial aid, the child’s tax capacity should be maximized in pre-college years. The client’s eligibility for the education tax credits should also be maximized. If eventually the child attends a college where the child qualifies for financial aid, the child’s income should be reduced to $6,400 and, if feasible, the child’s assets should be reduced.