1. Topic 6 Education Planning

2. Topic 6: Education Planning Learning Objectives – (a) Calculate the funds needed to meet the education goals of a client. – (b) Recommend the appropriate use of funding sources including loans, scholarships, grants, and fellowships in funding education. – (c) Compare, contrast and recommend appropriate education savings vehicles given tax implications, risk tolerance, investment alternatives, and funds needed.

3. Topic 6: Education Planning Needs analysis Tax credits/ adjustments / deductions Funding strategies Ownership of assets Vehicles

4. Topic 6: Needs Analysis Planning for education funding will typically require calculating the amount that will be needed to pay for four years of expenses at a college or university and then determining the amount that must be saved annually to reach that goal

5. Topic 6: Needs Analysis Example - Step 1 Paige and Jason have a two year old son Caden. Approximately how much will they need for Caden’s freshman tuition in 16 years from today if tuition is currently $10,000 a year and tuition is expected to increase 7% a year? Answer = $29,500 – N = 16, I = 7, PV = 10,000, PMT = 0, Solve for FV which is $29,522

6. Topic 6: Needs Analysis Example - Step 2 Approximately how much do Paige and Jason need to have saved by the time Caden starts school in order to pay for all 5 years of his college tuition if tuition inflation remains at 7% and their investments earn 5% ? Answer = $153,000 – N = 5, I = (1.05 / 1.07 – 1) x 100 = -1.8692, PMT = 29,522, FV = 0, Solve for PV using begin mode which is $153,341

7. Topic 6: Needs Analysis Example - Step 3 (Lump Sum) Approximately how much do Paige and Jason need to set aside today to pay for all 5 years of Caden’s college tuition if they earn 5% on their investments? Answer = $70,000 – N = 16, I = 5, PMT = 0, FV = 153,341, Solve for PV which is $70,247

8. Topic 6: Needs Analysis Example - Step 3 (Monthly Payments) Approximately how much do Paige and Jason need to save at the end of each month to have the funds needed when Caden starts school to pay for all 5 years of Caden’s college tuition if they earn 5% on their investments? Answer = $525 – N = 16 x 12 = 192, I = 5/12 = 0.4167, PV = 0, FV = 153,341, Solve for PMT which is $523

9. Topic 6: Needs Analysis Example - Cash Flow Lump Sum Short cut method to solve for the amount Paige and Jason need to set aside today to fund Caden’s education Year Cash Flow 0 0 1 – 15 0 16 – 20 10,000 Input above cash flows and the inflation adjusted rate of return ((1.05 / 1.07 – 1) x 100 = -1.869159), then solve for NPV which is $70,247 – Note: Used six digits on interest rate to eliminate rounding difference

10. Topic 6: Tax Credits American Opportunity Tax Credit – Formerly called Hope Scholarship Credit – Up to a $2,500 tax credit – Only eligible during first 4 years of college – AGI phaseout starts at $80,000 and $160,000 for single and married taxpayers, respectively in 2015 Lifetime Learning Credit – Up to a $2,000 tax credit – Do not need to be a full-time student – AGI phaseout starts at – $55,000 in 2015 for single taxpayers – $110,000 in 2015 for married taxpayers Child can claim either credit if parents’ AGI exceeds the threshold

11. Topic 6: Tax Adjustments / Deductions An above-the-line deduction of up to $2,500 may be taken annually for interest paid on qualified higher education loans – The deduction phases out between $65,000 and $80,000 for singles and between $130,000 and $160,000 for married taxpayers in 2015 Expired for 2015: an above-the-line deduction of up to $4,000 annually for qualified educational expenses – The $4,000 deduction was allowed for taxpayers with an AGI under $130,000 for married taxpayers and $65,000 for all other taxpayers – The deduction was reduced to $2,000 for taxpayers with an AGI in excess of the above amounts but below $160,000 for married taxpayers and $80,000 for all other taxpayers

12. Topic 6: Funding Strategies There are several different ways for a parent to fund a college education besides saving money in the parent’s investment account or relying on tax credits and deductions The most commonly used techniques include – Transferring assets to a child or a trust – 529 plans – ESAs – UGMAs and UTMAs – Savings bonds

13. Topic 6: Ownership of Assets Most clients prefer to keep control over the assets earmarked for education – There are some tax advantages for transferring these assets to a child or a trust – Watch out for the Kiddie Tax rules which cause any unearned income above $2,100 (2015) for a child under the age of 19 (24 if a student) to be taxed at the parents’ marginal tax bracket

14. Topic 6: 529 Plans Money can be set aside in special accounts, usually in mutual funds, to grow on a tax-deferred basis – Can front load account with 5 years of annual gift tax exclusions Money can be taken out tax-free if used to pay qualified education expenses, including tuition, room and board, travel, and other costs – Monies withdrawn for purposes other than education are taxable and carry a 10% penalty tax If the child named as beneficiary of the plan elects not to go to college, the money can be rolled over to a 529 plan for another child

15. Topic 6: Coverdell Education Savings Accounts (ESA) Coverdell education savings accounts (ESAs) allow for nondeductible contributions up to $2,000 per year per child – Phased out for married taxpayers filing jointly with a modified adjusted gross income of $190,000 - $220,000 – Contributions can be made in any year until the time the child reaches age 18 After age 18 for children with special educational needs Distributions from the account are tax-free if used to pay any of a wide variety of “qualified education expenses” – Includes K-12 expenses

16. Topic 6: UTMAs and UGMAs UTMA – Uniform Transfers to Minors Act UGMA – Uniform Gifts to Minors Act Advantages – The funds are held in a custodial account Disadvantages – Kiddie tax rules will apply – The child will have access to the account at age 18 or 21 depending on state law

17. Topic 6: Savings Bonds The interest earnings on EE bonds purchased after 1989 are federally income-tax-free if an amount equal to the proceeds is used to pay college tuition and fees – Bonds must have been purchased after 1989 and the purchaser must have been at least 24 years old when the bonds were purchased – Parental income must be below specified levels to take full advantage of the deduction (in 2015, $77,200 for single parents and $115,750 for joint filers) the income that determines the availability of the deduction is in the year the bonds are redeemed – If a parent is using the bonds for a child’s education they cannot be registered in the name of the child It is permissible for the child to be listed as a beneficiary on the bond, but the child cannot be a co-owner

18. Topic 6: Financial Aid Pell Grants and Supplemental Educational Opportunity Grants (SEOGs) – Both are grants rather than loans – Available for undergraduate students only – Students must show financial need Perkins loans – Federal loans administered by the child’s college – Available for graduate and undergraduate students – Students must show financial need – No interest is charged while the student is in school and for nine months after graduation until required payments begin

19. Topic 6: Financial Aid (cont.) Stafford loans – Subsidized loans Based upon need Federal government pays the interest while the student is in school and for six months after graduation – Unsubsidized loan Interest accrues from the date of loan; however, payments may be deferred Parent Loans for Undergraduate Students (PLUS loans) – Loans not based upon need – Available only for parents of undergraduate students or for professional / graduate students – Interest accrues from the date of loan; however, payments may be deferred

20. Topic 6: Other Loan Alternatives for Parents Home equity loans – Interest on up to $100,000 of home equity debt may be tax deductible – Competitive interest rates Loans from cash value life insurance – Low interest rates – Income tax-free – No required repayment schedule – Death benefit reduced by outstanding loans

21. Topic 6: Nonfinancial Planning for Higher Education High school courses for college credits Take challenging and appropriate classes in high school Extracurricular activities Paid and/or volunteer work Taking PSAT, SAT, and ACT exams Researching scholarships Learning to manage money and live on a budget

22. End of Topic 6