How to Pay for College

Fortunately, there are many resources available to help pay for college, including gift aid, student employment and student loans.

Written by Mark Kantrowitz / March 3, 2022

Quick Bites

  • There are a number of financial aid options, including grants, scholarships, student employment, military student aid and education tax benefits.
  • Families can also pay for college using student and parent loans made by the federal government and private lenders, and take advantage of tuition installment plans.
  • College savings plans can be used to save for college in advance, reducing the need for student loans.
  • There are also ways to save after graduation.

Paying for college can be confusing and intimidating, with an alphabet soup of acronyms. It’s almost like learning a foreign language.

Like most parents, you probably worry about how to cover college costs. And you worry that you may have missed something important and this failure will ruin your child’s future.

But wait. There are actually many ways to finance a college education, and it may be more affordable than you think. Here’s a rundown of what’s available, from college savings plans to financial aid and student loans.

Inside this article

  1. College savings plans
  2. Financial aid
  3. Student loans

College savings plans

College savings plans are specialized savings accounts that provide tax and financial aid advantages when saving for a college education.

Every dollar saved is a dollar less you’ll have to borrow. College savings also expands college choice, allowing the student to enroll in a more expensive college than they otherwise could afford.

These plans include 529 college savings plans, prepaid tuition plans and Coverdell education savings accounts.

529 Plans

These plans are like a Roth IRA, where you contribute after-tax dollars, earnings accumulate on a tax-deferred basis, and distributions are entirely tax-free if used to pay for qualified educational expenses.

Qualified expenses include:

  • College tuition and fees

  • Room and board (if enrolled at least half-time)

  • Books, supplies and equipment

  • Computers (plus peripherals, software and internet access)

  • Special-needs expenses

  • Up to $10,000 per year in K-12 tuition

  • Up to $10,000 in student loan repayment

Most states have at least one direct-sold 529 plan and one or more advisor-sold 529 plans. The direct-sold 529 plans have lower fees, but are self-service, while the advisor-sold 529 plans provide the advice of an investment advisor.

Tip: Many states provide a state income tax deduction or tax credit based on contributions to the state’s 529 plan.

There are no annual contribution limits, other than the annual gift tax exclusion, but there are aggregate contribution limits that range from $235,000 to $542,000, depending on the state.

Contributions are immediately removed from the contributor’s estate (anyone can contribute to any beneficiary’s 529) but remain under your control as the account owner. Five-year gift tax averaging, also known as superfunding, allows contributors to give up to five times the annual gift tax exclusion as a lump sum and have it treated as though it were spread out over a five-year period.

Prepaid Tuition Plans

These plans let you buy college tuition and fees for state schools at today’s prices (plus a premium) in installments or through a lump sum investment. Most prepaid tuition plans cover just tuition and required fees, but not other college costs.

Some prepaid tuition plans for state schools come with guarantees, providing peace of mind, but it is unclear what this means in practice. You, the account holder, or beneficiary must be a resident of the state.

There is also a prepaid tuition plan for private colleges, with almost 300 participating colleges. There may be age limits for these plans. Less than a dozen prepaid tuition plans for private colleges are open for new participants, and enrollment may be restricted to a particular time of year, which varies by state.

Coverdell Education Savings Accounts

These plans are similar to 529 plans, but with a broader set of qualified expenses for elementary and secondary school. You have more control over the investments, but contributions are limited to $2,000 a year from all sources.

Although anyone can contribute to a Coverdell, there is an income phaseout based on the contributor’s income, from $95,000 to $110,000 for single filers and $190,000 to $220,000 for married filing jointly.

Contributions end when the beneficiary reaches age 18. The money must be spent by the time the beneficiary reaches age 30. Coverdell education savings accounts may be rolled over into a 529 college savings plan, but not vice versa.

All of these college savings plans are reported as a parent asset on the Free Application for Federal Student Aid (FAFSA) if they are owned by a dependent student or the dependent student’s parent. This yields a more favorable financial aid treatment than reporting the college savings plan as a student asset.

ABLE Savings Plans

Besides these savings plans, there is also what’s known as an ABLE account, which is a tax-advantaged way of saving money for a disabled child’s disability-related expenses. These can include educational expenses in addition to living expenses and special-needs expenses. It has a broader set of special-needs expenses than 529 plans and can be used even if the child does not go to college. The money in the account, up to $100,000, does not count against financial aid eligibility.

However, I do not recommend using an ABLE account, as there is a forfeiture clause: If the beneficiary dies, the state can seize the money to repay the cost of Medicaid for the beneficiary. If one is going to use an ABLE account, it may be better to save in a 529 plan account and then roll over money from the 529 plan account to the ABLE account to use to pay for disability-related expenses. You can roll over up to the annual gift tax exclusion from a 529 plan to an ABLE account each year.

Roth IRAs and UGMA or UTMA Accounts

Roth IRA and taxable accounts can also be used to save for college, but don’t have the same financial aid advantages as college savings plans. Although a Roth IRA is not reported as an asset on the FAFSA, a tax-free return of contributions from a Roth IRA is reported as untaxed income on the FAFSA, which has the same impact as taxable income; this yields a reduction in eligibility for need-based financial aid.

A custodial bank or brokerage account, such as an UGMA or UTMA account, is reported as the student’s asset on the FAFSA, which has a more severe impact on eligibility for need-based financial aid. These accounts are most useful when it is uncertain whether the child will enroll in college, since they have a more flexible definition of allowable expenses.

Financial aid

There are two types of financial aid, need-based and merit-based.

Need-Based Financial Aid

Eligibility for need-based financial aid is based on demonstrated financial need, the difference between total college costs and ability to pay, as measured by financial aid forms and formulas.

The FAFSA is used to determine eligibility for financial aid from the federal government, state governments and most colleges and universities.

The CSS Profile is a supplemental financial aid form used by nearly 200 mostly private colleges to determine eligibility for the college’s own financial aid funds.

These forms serve as a gateway to federal, state and college grants and student employment. The FAFSA is also required for federal loans.

Merit-Based Financial Aid

Grants and scholarships are both types of gift aid, which is money that does not need to be repaid. Generally, grants are based on financial need while scholarships are based on merit. For example, the Federal Pell Grant depends on financial need while private scholarships depend on academic, athletic or artistic skills.

Private scholarships are funded by foundations, philanthropists, corporations and nonprofit organizations. Private scholarships can be found through free scholarship matching services, such as Fastweb and the College Board’s Big Future. Each scholarship has its own application form and selection criteria.

Other types of aid include:

Student employment

This includes work-study programs, such as Federal Work-Study. Some colleges have their own college work-study programs. There are also tuition waivers based on the student’s or parent’s employment or service.

Military student aid

Your student can get ROTC Scholarships and GI Bill benefits, but they come with an obligation to serve in the U.S. Armed Forces.

Education tax benefits

These include the American Opportunity Tax Credit (AOTC), Lifetime Learning Tax Credit (LLTC) and Student Loan Interest Deduction, and are claimed by filing a federal income tax return. The IRS offers information on all of these tax breaks.

Employer-paid educational assistance

This allows employers to provide employees with up to $5,250 a year in tuition assistance and student loan repayment assistance.

Student loans

There are two main types of student loans, federal and private. Student loans can be borrowed by the student or you, as the student’s parent.

Federal Student Loans

These include education loans that are funded or guaranteed by the federal government. Examples include the Federal Direct Stafford Loan, Federal Direct PLUS Loan and Federal Direct Consolidation Loan. These loans have fixed interest rates. Some federal loans are subsidized, with the federal government paying the interest during the in-school and grace periods, as well as periods of authorized deferment.

Eligibility for subsidized loans depends on financial need, while unsubsidized loans are available to all eligible borrowers, regardless of financial need. Even wealthy students can qualify for unsubsidized loans.

Private Student Loans

These are funded by banks, credit unions, state loan agencies and other financial institutions. The interest rates, fees and other terms are set by the lender. Most private student loans offer both fixed-rate and variable-rate interest rate options. Most also require a creditworthy cosigner, presumably you, who is equally obligated to repay the debt.

Eligibility and interest rates are based on the credit scores of the borrower and cosigner, as well as income thresholds, debt-to-income ratios, and duration of employment with the current employer. Private student loans have fewer repayment options than federal student loans.

Your student must be enrolled on at least a half-time basis and seeking a degree or certificate to qualify for all federal and most private student loans.

Student Loan Forgiveness

These programs cancel all or part of a borrower’s student loan debt in exchange for service, such as working in a national need area. Examples include Public Service Loan Forgiveness and Teacher Loan Forgiveness.

Student Loan Discharge

These programs cancel the borrower’s student loan debt when the borrower is unable to repay the debt or not responsible for the debt. Examples include death and disability discharges, closed school discharges and the borrower defense to repayment discharge.

In addition to student loans, there are also tuition installment plans, which spread out college bills into up to a dozen equal monthly installments. Tuition installment plans do not charge interest, but do charge an upfront fee that is usually less than $100. They are a good alternative to long-term debt for families who can afford to pay the college bills, just not in one big lump sum.

About the Author

Mark Kantrowitz

Mark Kantrowitz

Mark Kantrowitz is a nationally-recognized expert on student financial aid, the FAFSA, scholarships, 529 plans and student loans. His mission is to deliver practical information, advice and tools to students and their families so they can make smarter, more informed decisions.

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