Early retiree strategies for maximizing financial aid

[johnny847]

Something I recently learned about 529s (it's possible I'm wrong about this, but I'm fairly confident about the conclusions here):

529s shield your income. Income is assessed at a rate that is much higher than assets (the top bracket for income is 20% or so, I can't recall exactly. The point is it is significantly higher than the top rate of 5.64% that your assets are assessed at).

So if you have dividend income from your assets, you are assessed on both the asset balance and the dividend income. If you have long term capital gains, the LTCG is assessed as income (and again, the assets you sold were previously assessed as assets).
So income from assets effectively gets assessed twice: once on the asset balance itself, and then again as income when you receive dividends and/or sell.

However, suppose you have a 529 with you as the custodian (where we'e not talking about having grandparents opening a 529). There can never be any income from the 529, even the 529 withdrawals. It is only ever assessed as an asset.


I believe this is correct, and if not, please correct me!

[lizzie]

Just posting so I can follow.

[madamwitty]

However, suppose you have a 529 with you as the custodian (where we'e not talking about having grandparents opening a 529). There can never be any income from the 529, even the 529 withdrawals. It is only ever assessed as an asset.

This is true only for qualified expenses:
https://www.edvisors.com/plan-for-college/saving-for-college/529-college-savings-plans/financial-aid/

But yes, this is a great benefit of 529s. We are putting away a significant amount of money for out kids in 529s.

As you alluded, distributions from a grandparent owned 529 are included on FAFSA as untaxed income to the student. But this is not a problem after the last FAFSA is submitted mid junior year and could be used for funding 1.5 years worth of college. Actually, this could be a great option for families with multiple kids since it is not included as parental income and will not affect the siblings' FAFSA assessment.

[johnny847]

However, suppose you have a 529 with you as the custodian (where we'e not talking about having grandparents opening a 529). There can never be any income from the 529, even the 529 withdrawals. It is only ever assessed as an asset.

This is true only for qualified expenses:
https://www.edvisors.com/plan-for-college/saving-for-college/529-college-savings-plans/financial-aid/

Haha yea I made that implicit assumption.

As you alluded, distributions from a grandparent owned 529 are included on FAFSA as untaxed income to the student. But this is not a problem after the last FAFSA is submitted mid junior year and could be used for funding 1.5 years worth of college. Actually, this could be a great option for families with multiple kids since it is not included as parental income and will not affect the siblings' FAFSA assessment.

Emphasis mine.
I didn't cover the first part because I thought it had been mentioned earlier, but I didn't bother to check.
But the bolded part, I was not aware of! That result is kind of bizarre. But I guess it sort of makes sense too - the 529 distribution from the grandparent is counted as the kid's income, right? And the kid isn't expected to contribute to his or her sibling's expenses.

[Chuck]

Non-Education IRAs is all that you need. If you are doing a Roth IRA conversion to pay for your expenses, you are flat broke as far as financial aid is concerned.

That awesome. I hope they don't change that in the next 20ish years.

[sol]

Can anyone tell me which part of owning rental property hurts your chances for financial aid the most?

It's not the value of the property or the equity, it's the part where you can't file a 1040A anymore.  So you pretty much can't own rental property at all.

Only people who can file a 1040 (not a 1040A) and can show low enough income are eligible for the simplified FAFSA accounting process that excludes assets.  If you file a schedule E you're out of luck.

See for more details:  http://www.finaid.org/educators/needs.phtml

[teen persuasion]

Non-Education IRAs is all that you need. If you are doing a Roth IRA conversion to pay for your expenses, you are flat broke as far as financial aid is concerned.

That awesome. I hope they don't change that in the next 20ish years.

Did you read post #43?  You may be flat broke as far as the IRS is concerned, but the FAFSA adds back untaxed income.  I'm glad someone pointed it out to me before I tried it, but it is back to the drawing board for financial plans while DS5 is in college.

[madamwitty]

I have been mulling over this topic quite a bit over the past couple weeks. I'm not quite ready to unveil a master plan, but I had a few thoughts I wanted to record here.

It seems to me the hard part of paying for college after retiring early is not saving enough money for college. I have plenty of excess income to shove into 529 plan accounts. The problem is avoiding being penalized (unfairly, in my opinion) for early retirement compared to those who retire after 59.5 and have easy access to their retirement accounts. The early retiree has to have lots of taxable investments or jump through hoops to access retirement accounts, both of which negatively impact EFC.

IRAs can apparently be tapped for higher education expenses without the 10% early withdrawal penalty. I've heard a lot of talk about using Roth IRAs for the last 1.5 years of school, after the last FAFSA is submitted, so as not to appear as income on FAFSA. I don't hear as much about using traditional IRAs in the same capacity, probably because tIRAs are taxable, but this may not be as much of a problem for Mustachians in low income tax brackets. 15% tax may be preferable to having an equivalent amount of money in a taxable investment account assessed on FAFSA at 5.6% year after year after year (in my case, 10 years spread across 3 kids). This may be important for those trying to preserve viability of a Roth pipeline considering both legs of the pipeline are considered income by FAFSA (see reply #28 in this thread).

Another way to tap the tIRA account directly (without the double-counting effected by the Roth pipeline) is a SEPP 72(t) withdrawal. I don't like the lack of flexibility -once you start withdrawals, you can't stop without penalty until age 59.5. But in my spreadsheet calculations so far, this is the option that requires the least initial savings in taxable investments and 529 plan accounts, and the smallest cumulative EFC. Still brainstorming, though.

One other thing that might fit into a financial aid strategy is continuing to make Roth contributions even while paying for college. Shoveling taxable investments into a shielded account that you can still (partly) tap at need is one way to reduce assets visible to FAFSA. I'm still thinking about whether that hurts more in the long run since pulling it back out again counts as "income". But again, this may help preserve the viability of a Roth pipeline for after the college years.

Hmmm. Just some things to think about.

[madamwitty]

More late night/early morning thoughts!

A big part of my financial aid strategy is staying under the FAFSA income exclusion amount. Above that amount, any income is assessed at 40% toward your EFC. (ETA: Actually, it's 22% to 47% on a progressive scale.) Seems like a bad deal to me! To avoid this I plan to fund part of my annual living expenses by selling off taxable investments - only the capital gains portion is assessed as income. But - in order to minimize the capital gains during college years, it seems prudent to me to "reset" the basis of the investments (i.e. sell off & then buy similar assets) to push capital gains into the tax year before the first year "seen" by FAFSA.

The stockpile of taxable investments itself is also assessed by FAFSA, albeit at the lower 5.6% rate. But in my situation (10 years of college to fund!) that rate adds up.  One obvious way to reduce the needed stockpile is to reduce annual living expenses. It occurred to me this could be done by prepaying certain expenses. A great example that comes to mind is religious organization fees (or a tithe, if that's how you roll). I bet my synagogue would be willing to accept prepayment of 10 years worth of membership fees & religious school tuition. I whipped up a quick spreadsheet calculation.

Assumptions:
$3000 annual religious expenses, growing 2.7% annually (average inflation)
Investment would grow at 7% annually
Remaining investment balance assessed by FAFSA at 5.64% annually - expense added to my EFC

Result:
It would take a starting stockpile of $35,400 (including the effect on EFC) to fund a 10-year expense with current value of $30,000.

This doesn't even take into account the volatility of the stock market. Ideally, if I could predict the stock market, I would start with a stockpile of a certain size and burn it down to 0 at the end of the 10 years (assuming I can go back to using my Roth pipeline afterward). But given stock market volatility, I would probably choose to start with a larger stockpile than strictly needed in order to make sure I have enough. That translates into even more EFC $$$.

A bonus for this particular case is that some portion of my religious expenses is tax deductible if I itemize, which I wouldn't normally be able to with $3000 annual expenses but could with this large prepayment. This could be used to help offset the aforementioned capital gains "reset".

I wonder what other expenses could potentially be prepaid? I can't (and wouldn't want to) prepay everything, but prepayment seems valuable up to a point.

[sol]

Your mortgage is the other obvious one.

[madamwitty]

Your mortgage is the other obvious one.

Good point. I take that one for granted because I plan to pay off the mortgage when I retire.

[teen persuasion]

More late night/early morning thoughts!

A big part of my financial aid strategy is staying under the FAFSA income exclusion amount. Above that amount, any income is assessed at 40% toward your EFC. Seems like a bad deal to me! To avoid this I plan to fund part of my annual living expenses by selling off taxable investments - only the capital gains portion is assessed as income. But - in order to minimize the capital gains during college years, it seems prudent to me to "reset" the basis of the investments (i.e. sell off & then buy similar assets) to push capital gains into the tax year before the first year "seen" by FAFSA.

The stockpile of taxable investments itself is also assessed by FAFSA, albeit at the lower 5.6% rate. But in my situation (10 years of college to fund!) that rate adds up.  One obvious way to reduce the needed stockpile is to reduce annual living expenses. It occurred to me this could be done by prepaying certain expenses. A great example that comes to mind is religious organization fees (or a tithe, if that's how you roll). I bet my synagogue would be willing to accept prepayment of 10 years worth of membership fees & religious school tuition. I whipped up a quick spreadsheet calculation.

Assumptions:
$3000 annual religious expenses, growing 2.7% annually (average inflation)
Investment would grow at 7% annually
Remaining investment balance assessed by FAFSA at 5.64% annually - expense added to my EFC

Result:
It would take a starting stockpile of $35,400 (including the effect on EFC) to fund a 10-year expense with current value of $30,000.

This doesn't even take into account the volatility of the stock market. Ideally, if I could predict the stock market, I would start with a stockpile of a certain size and burn it down to 0 at the end of the 10 years (assuming I can go back to using my Roth pipeline afterward). But given stock market volatility, I would probably choose to start with a larger stockpile than strictly needed in order to make sure I have enough. That translates into even more EFC $$$.

A bonus for this particular case is that some portion of my religious expenses is tax deductible if I itemize, which I wouldn't normally be able to with $3000 annual expenses but could with this large prepayment. This could be used to help offset the aforementioned capital gains "reset".

I wonder what other expenses could potentially be prepaid? I can't (and wouldn't want to) prepay everything, but prepayment seems valuable up to a point.

Lots of interesting ideas to explore!

I'm curious how you arrived at the 40% figure I bolded above.  The relevant table in the FAFSA EFC calculation booklet appears to be progressive, like fed income tax rates, starting at 22% and rising in steps to 47%.

[johnny847]

More late night/early morning thoughts!

A big part of my financial aid strategy is staying under the FAFSA income exclusion amount. Above that amount, any income is assessed at 40% toward your EFC. Seems like a bad deal to me! To avoid this I plan to fund part of my annual living expenses by selling off taxable investments - only the capital gains portion is assessed as income. But - in order to minimize the capital gains during college years, it seems prudent to me to "reset" the basis of the investments (i.e. sell off & then buy similar assets) to push capital gains into the tax year before the first year "seen" by FAFSA.

The stockpile of taxable investments itself is also assessed by FAFSA, albeit at the lower 5.6% rate. But in my situation (10 years of college to fund!) that rate adds up.  One obvious way to reduce the needed stockpile is to reduce annual living expenses. It occurred to me this could be done by prepaying certain expenses. A great example that comes to mind is religious organization fees (or a tithe, if that's how you roll). I bet my synagogue would be willing to accept prepayment of 10 years worth of membership fees & religious school tuition. I whipped up a quick spreadsheet calculation.

Assumptions:
$3000 annual religious expenses, growing 2.7% annually (average inflation)
Investment would grow at 7% annually
Remaining investment balance assessed by FAFSA at 5.64% annually - expense added to my EFC

Result:
It would take a starting stockpile of $35,400 (including the effect on EFC) to fund a 10-year expense with current value of $30,000.

This doesn't even take into account the volatility of the stock market. Ideally, if I could predict the stock market, I would start with a stockpile of a certain size and burn it down to 0 at the end of the 10 years (assuming I can go back to using my Roth pipeline afterward). But given stock market volatility, I would probably choose to start with a larger stockpile than strictly needed in order to make sure I have enough. That translates into even more EFC $$$.

A bonus for this particular case is that some portion of my religious expenses is tax deductible if I itemize, which I wouldn't normally be able to with $3000 annual expenses but could with this large prepayment. This could be used to help offset the aforementioned capital gains "reset".

I wonder what other expenses could potentially be prepaid? I can't (and wouldn't want to) prepay everything, but prepayment seems valuable up to a point.

Lots of interesting ideas to explore!

I'm curious how you arrived at the 40% figure I bolded above.  The relevant table in the FAFSA EFC calculation booklet appears to be progressive, like fed income tax rates, starting at 22% and rising in steps to 47%.

Yup.
In very many ways the EFC operates like a tax on assets and income, with certain types of assets excluded and a different definition of income from that of the IRS.
In effect, if your child is receiving financial aid, your marginal tax rate is more than the sum of the federal and state marginal rates.

[Unique User]

Can anyone tell me which part of owning rental property hurts your chances for financial aid the most?

It's not the value of the property or the equity, it's the part where you can't file a 1040A anymore.  So you pretty much can't own rental property at all.

Only people who can file a 1040 (not a 1040A) and can show low enough income are eligible for the simplified FAFSA accounting process that excludes assets.  If you file a schedule E you're out of luck.

See for more details:  http://www.finaid.org/educators/needs.phtml

I've just been looking into this and what I read seems to show that if the rental property is held in an LLC (title owned by the LLC also) it can be excluded under the small business exclusion. 

http://www.finaid.org/fafsa/smallbusiness.phtml
If the business is incorporated (e.g., C corporation, S corporation, LLC), the "significant services" requirement does not generally apply. Incorporating the business avoids many questions about whether it really is a business or not. However, the rental property must be owned by the business in order to be excluded, as the small business exclusion only applies to the business and its assets.

[PatStab]

Our son went in the military and the government paid for his college.  He also got a great education while being in.  He had to sign up for 5 years, was trained in satellite/microwave repair.  He was in 10 years, now is a supervisor in the DOD, has a good job, pays well.

[madamwitty]

I'm curious how you arrived at the 40% figure I bolded above.  The relevant table in the FAFSA EFC calculation booklet appears to be progressive, like fed income tax rates, starting at 22% and rising in steps to 47%.

Thank you for catching my error. To be honest, I was working from memory. 40% was probably my marginal assessment rate when I use to think DH and/or I would be working while sending the kids to college. I'll add a note to my post above.

22% isn't great, but it's not as bad as 40%! That may shift my strategy slightly in favor of the "income" side of things for later years.

[teen persuasion]

More late night/early morning thoughts!

A big part of my financial aid strategy is staying under the FAFSA income exclusion amount. Above that amount, any income is assessed at 40% toward your EFC. Seems like a bad deal to me! To avoid this I plan to fund part of my annual living expenses by selling off taxable investments - only the capital gains portion is assessed as income. But - in order to minimize the capital gains during college years, it seems prudent to me to "reset" the basis of the investments (i.e. sell off & then buy similar assets) to push capital gains into the tax year before the first year "seen" by FAFSA.

The stockpile of taxable investments itself is also assessed by FAFSA, albeit at the lower 5.6% rate. But in my situation (10 years of college to fund!) that rate adds up.  One obvious way to reduce the needed stockpile is to reduce annual living expenses. It occurred to me this could be done by prepaying certain expenses. A great example that comes to mind is religious organization fees (or a tithe, if that's how you roll). I bet my synagogue would be willing to accept prepayment of 10 years worth of membership fees & religious school tuition. I whipped up a quick spreadsheet calculation.

Assumptions:
$3000 annual religious expenses, growing 2.7% annually (average inflation)
Investment would grow at 7% annually
Remaining investment balance assessed by FAFSA at 5.64% annually - expense added to my EFC

Result:
It would take a starting stockpile of $35,400 (including the effect on EFC) to fund a 10-year expense with current value of $30,000.

This doesn't even take into account the volatility of the stock market. Ideally, if I could predict the stock market, I would start with a stockpile of a certain size and burn it down to 0 at the end of the 10 years (assuming I can go back to using my Roth pipeline afterward). But given stock market volatility, I would probably choose to start with a larger stockpile than strictly needed in order to make sure I have enough. That translates into even more EFC $$$.

A bonus for this particular case is that some portion of my religious expenses is tax deductible if I itemize, which I wouldn't normally be able to with $3000 annual expenses but could with this large prepayment. This could be used to help offset the aforementioned capital gains "reset".

I wonder what other expenses could potentially be prepaid? I can't (and wouldn't want to) prepay everything, but prepayment seems valuable up to a point.

Lots of interesting ideas to explore!

I'm curious how you arrived at the 40% figure I bolded above.  The relevant table in the FAFSA EFC calculation booklet appears to be progressive, like fed income tax rates, starting at 22% and rising in steps to 47%.

Yup.
In very many ways the EFC operates like a tax on assets and income, with certain types of assets excluded and a different definition of income from that of the IRS.
In effect, if your child is receiving financial aid, your marginal tax rate is more than the sum of the federal and state marginal rates.

I hadn't thought to view this as an alternate tax system with different rules, good way to look at it.  I'm also including EITC rules in our mix, with investment income limits and phaseout ranges and rates, which also change our marginal rates.  No wonder it seems so complicated!

Another prepayment area is medical, thru funding an HSA.  Pay medical expenses OOP now, reimburse yourself later, and have money set aside for future expenses.  Unfortunately, this approach makes filing a 1040A impossible.

[DoubleDown]

Can anyone tell me which part of owning rental property hurts your chances for financial aid the most?

It's not the value of the property or the equity, it's the part where you can't file a 1040A anymore.  So you pretty much can't own rental property at all.

Only people who can file a 1040 (not a 1040A) and can show low enough income are eligible for the simplified FAFSA accounting process that excludes assets.  If you file a schedule E you're out of luck.

See for more details:  http://www.finaid.org/educators/needs.phtml

I've just been looking into this and what I read seems to show that if the rental property is held in an LLC (title owned by the LLC also) it can be excluded under the small business exclusion. 

http://www.finaid.org/fafsa/smallbusiness.phtml
If the business is incorporated (e.g., C corporation, S corporation, LLC), the "significant services" requirement does not generally apply. Incorporating the business avoids many questions about whether it really is a business or not. However, the rental property must be owned by the business in order to be excluded, as the small business exclusion only applies to the business and its assets.

No, that won't work. Scroll down a bit in the link you provided and you'll see that (residential) rental property cannot be excluded as a business. They treat it the same as the IRS, which is as a passive activity.

[madamwitty]

Another prepayment area is medical, thru funding an HSA.  Pay medical expenses OOP now, reimburse yourself later, and have money set aside for future expenses.  Unfortunately, this approach makes filing a 1040A impossible.

The "simplified EFC" or "zero EFC" doesn't necessarily have to be an all or nothing thing. You could shove your non-1040A activities into alternating years. Eg sell stocks (or HSA reimbursement, or whatever) on Dec 31 of one year, spend the entire next tax year withdrawing only from rIRA, and then sell more stock starting on Jan 1 of the following year. You get a see-saw effect of small (or zero) EFC one year, then larger EFC the next.

My mom always thought it was better to start with a low EFC and go up from there. The idea was that the college would earmark a similar amount of aid for the following years (even if you didn't end up qualifying for it.) On the flip side, if you qualified for more aid in a subsequent year, they might not have any grants left over for you and you end up with loans. It makes sense, but that's just something my mom told me, I am not sure how much truth there is to it.

Anyway, the idea of skipping a year could work, and might not be a bad idea even if you can only make it work for the first year. 

[Unique User]

Can anyone tell me which part of owning rental property hurts your chances for financial aid the most?

It's not the value of the property or the equity, it's the part where you can't file a 1040A anymore.  So you pretty much can't own rental property at all.

Only people who can file a 1040 (not a 1040A) and can show low enough income are eligible for the simplified FAFSA accounting process that excludes assets.  If you file a schedule E you're out of luck.

See for more details:  http://www.finaid.org/educators/needs.phtml

I've just been looking into this and what I read seems to show that if the rental property is held in an LLC (title owned by the LLC also) it can be excluded under the small business exclusion. 

http://www.finaid.org/fafsa/smallbusiness.phtml
If the business is incorporated (e.g., C corporation, S corporation, LLC), the "significant services" requirement does not generally apply. Incorporating the business avoids many questions about whether it really is a business or not. However, the rental property must be owned by the business in order to be excluded, as the small business exclusion only applies to the business and its assets.

No, that won't work. Scroll down a bit in the link you provided and you'll see that (residential) rental property cannot be excluded as a business. They treat it the same as the IRS, which is as a passive activity.

f the business is incorporated (e.g., C corporation, S corporation, LLC), the "significant services" requirement does not generally apply. Incorporating the business avoids many questions about whether it really is a business or not. However, the rental property must be owned by the business in order to be excluded, as the small business exclusion only applies to the business and its assets. The small business exclusion does not apply to assets that are managed by the business but not otherwise owned by the business. If the deed to the property is in the family's name, it is a personal asset and must be reported as an investment asset on the FAFSA. If the deed is in the name of the business, then it can be excluded on the FAFSA if the small business exclusion applies. For example, if the family owns a property which it rents to the business, that property is reported as an investment asset on the FAFSA because it is owned by the family, not the business.

Reading down the page, I found the bolded area.  What am I missing?

[madamwitty]

Time for some more musings from madamwitty^TM on this topic:

I've been evaluating all sorts of scenarios and before I get into the details I thought I should make a few comments about the framework I'm using to evaluate the various options:

• I am committing to fund the entire EFC for all three of my kids. I expect the vast majority of the EFC to be based on my financial situation and I don't think it's fair to penalize them (i.e. make them pay) for my financial decisions. (Especially the decision to retire early where that has a negative effect on EFC.)
• In addition, I will not limit their choice of colleges to public colleges only. I benefitted greatly from attending a private college as compared to my public options and want them to have the same opportunities. This means I cannot count on the "simplified EFC" or "zero EFC" option working for us (although if it does, some years, that would be great!) Many private colleges include home equity in their asset evaluations; some limit this as a multiplier based on annual income, but some do not. I can't afford to cover unlimited home equity, but I think 2-3 times annual income (which is common) is doable.
• On the flip side, I can't guarantee that a particular college will provide full financial aid for everything other than EFC. I will encourage my kids not to pick a school with a gap or substantial loans in the aid package, but ultimately that will be their decision and their financial commitment.
• I have 10 years of college to fund over 3 kids, which means my funding plan has to be sustainable over a long timeframe and flexible to market conditions.
• I plan to save enough money in 529 Plan accounts to cover EFC (to prevent college funds being assessed as income). If I run out of 529 money, I can dip into an IRA in the last 1.5 years, after the last FAFSA is submitted. I might also have a 529 in grandparents' names for the last 1.5 years of DD1 and DS2. But actually I wouldn't be surprised if I end up with too much 529 money.
• Annual living expenses need to come out of Roth pipeline, SEPP 72(t) withdrawals, capital gains from taxable investments, or even earned income. (For planning purposes, earned income will be purely incidental for something I do out of enjoyment, and not counted on in my plans. In fact, unplanned/variable earned income kind of throws a wrench in my plans! But some amount is desirable in order to get certain tax credits.)
• I assume I can manipulate the starting amount in my taxable investment accounts to whatever I want (at a coarse level.) I am pretty sure this is true. I can either boost taxable savings in the years prior to retirement by foregoing 403(b) contributions, or I can spend down savings in my first couple years after retirement. I have yet to evaluate the impact to my Roth pipeline.

My conclusion:

The lowest EFC solutions I could come up with all involved SEPP 72(t) withdrawals. I suppose this makes sense upon reflection. Pulling directly from a retirement account reduces the amount taxable investments needed to cover living expenses, and avoids the "double counting" of income that applies to a Roth pipeline. SEPP withdrawals also lend themselves well to fitting within the constraints of the "simplified EFC" assessment - no 1040A required (I think?).

Now for an aside on the topic of SEPP withdrawals:

Even though SEPP withdrawal calculation is specified by the IRS, I can manipulate a SEPP withdrawal amount by splitting off a separate IRA with the proper account balance to get the annual withdrawal amount I want.

I mentioned before that I don't like the lack of flexibility, because distributions have to continue exactly as specified until age 59 and 1/2. For me that will be about 15 years from the time my kids start college! Ultimately, the problem comes if I start to have significant earned income and am being taxed at a higher marginal rate on my (now unneeded) SEPP withdrawals. Really, at that point additional earned income is something I do for the fun, not really for the profit. While unfortunate, taxes on the extra income are not going to change the fact that I will already be FI.

If too big of a SEPP annual withdrawal is a problem, there is a one-time opportunity to switch calculation methods to the "minimum withdrawal method". The minimum withdrawal method has the potential to reduce the annual withdrawal (depending on circumstances), e.g. after the kids are out of college. The minimum withdrawal method may not be a valid option for reducing the distribution if my IRA value has grown too much (not a bad problem to have!)

On the other side, you can have more than one SEPP withdrawal as long as they come from separate IRAs. So, I can start with a smaller SEPP withdrawal and add on a stream or two if necessary. I don't have to be committed initially to a large SEPP withdrawal. And for unexpected single-time event I could take a Roth withdrawal (despite its unfavorable effect on EFC.)

Does SEPP really help me address my goals?

The ultimate purpose of "maximizing financial aid" probably varies by person, so the appropriateness of a given method probably depends on context. Such goals might include, for example: sooner FI, decreasing risk of running out of funds in retirement, increasing money for fun in FI, or increasing money for bequests/inheritances after death.

I think my main goals are:
(1) don't run out of money in retirement (while maintaining a certain [Mustachian] standard of living), and
(2) pay for the kids' college.

I think using SEPP helps reduce risk of running out of taxable investments before age 59.5 by shrinking my dependence on a taxable account (even if I decrease the size of the account accordingly). DH and I will probably have a withdrawal rate of 3% in retirement so I am not concerned about after 59.5 when we get full access to our accounts. Long term use (15 years) of SEPP probably increases the risk of "non optimal" use of the money *if* I have earned income - but I guess I don't really see that as an issue.

I would love to hear from others on this board to see if this line of logic makes sense, or if I am overlooking something.

[madamwitty]

Another side note:

One other thing that might fit into a financial aid strategy is continuing to make Roth contributions even while paying for college. Shoveling taxable investments into a shielded account that you can still (partly) tap at need is one way to reduce assets visible to FAFSA. I'm still thinking about whether that hurts more in the long run since pulling it back out again counts as "income". But again, this may help preserve the viability of a Roth pipeline for after the college years.

I always forget this can only happen if there is earned income. It occurred to me that main circumstance in which this would make sense is if the simplified EFC calculation is off the table (e.g. had to claim some capital gains anyway) and there is still room in the income exclusion for extra capital gains to be redirected to a Roth. Otherwise, it would be best to minimize income by not incurring unnecessary capital gains (especially if you're being assessed home equity based on a multiplier of income).

[Argyle]

Note that acceptance at many selective colleges is not need-blind.  In other words, they look at whether you state you'll be applying for their financial aid when they make admissions decisions.  In almost every selective college (not so much at the less competitive ones), they have far more qualified applicants than they can accept.  For simplicity's sake, let's say there are 100 spots in the freshman class.  So say they have 400 highly-qualified poor applicants and 400 highly-qualified rich applicants.  And they have the funds to give financial aid to 35 students.  They'll pick 35 students from the poor pool, and then they've run out of money, so they'll fill the rest of the class with 65 of the rich applicants.  Wealth gives you a better chance at a spot.  Just something to keep in mind.  Once the student has been admitted, if their parents have to apply for financial aid later, of course their kid doesn't lose his/her spot.

[Emilyngh]

Here's a list full of schools that are completely need-blind.   Note that it includes many very selective colleges and Universities.

https://www.edvisors.com/plan-for-college/college-admissions/need-blind-admissions/

[madamwitty]

Note that acceptance at many selective colleges is not need-blind.

Thank you for pointing this out. I suppose one of my key unstated strategies for maximizing financial aid is to apply to at least some need blind schools :-)

Here's a list full of schools that are completely need-blind.   Note that it includes many very selective colleges and Universities.

https://www.edvisors.com/plan-for-college/college-admissions/need-blind-admissions/

Great link! I agree there are many great need-blind schools out there. I went to one of the schools on the list (and I assure you all it was very selective).

[Emilyngh]

Note that acceptance at many selective colleges is not need-blind.

Thank you for pointing this out. I suppose one of my key unstated strategies for maximizing financial aid is to apply to at least some need blind schools :-)

Here's a list full of schools that are completely need-blind.   Note that it includes many very selective colleges and Universities.

https://www.edvisors.com/plan-for-college/college-admissions/need-blind-admissions/

Great link! I agree there are many great need-blind schools out there. I went to one of the schools on the list (and I assure you all it was very selective).

IME the *most* selective schools are often also the wealthiest (ie, have the largest endowments) and thus some of the most likely to be need-blind.   It's actually second tier (and lower) schools that have to make sure that they accept enough students who can pay more in order to ensure that they collect enough in tuition to stay a-float.

[DoubleDown]

Can anyone tell me which part of owning rental property hurts your chances for financial aid the most?

It's not the value of the property or the equity, it's the part where you can't file a 1040A anymore.  So you pretty much can't own rental property at all.

Only people who can file a 1040 (not a 1040A) and can show low enough income are eligible for the simplified FAFSA accounting process that excludes assets.  If you file a schedule E you're out of luck.

See for more details:  http://www.finaid.org/educators/needs.phtml

I've just been looking into this and what I read seems to show that if the rental property is held in an LLC (title owned by the LLC also) it can be excluded under the small business exclusion. 

http://www.finaid.org/fafsa/smallbusiness.phtml
If the business is incorporated (e.g., C corporation, S corporation, LLC), the "significant services" requirement does not generally apply. Incorporating the business avoids many questions about whether it really is a business or not. However, the rental property must be owned by the business in order to be excluded, as the small business exclusion only applies to the business and its assets.

No, that won't work. Scroll down a bit in the link you provided and you'll see that (residential) rental property cannot be excluded as a business. They treat it the same as the IRS, which is as a passive activity.

f the business is incorporated (e.g., C corporation, S corporation, LLC), the "significant services" requirement does not generally apply. Incorporating the business avoids many questions about whether it really is a business or not. However, the rental property must be owned by the business in order to be excluded, as the small business exclusion only applies to the business and its assets. The small business exclusion does not apply to assets that are managed by the business but not otherwise owned by the business. If the deed to the property is in the family's name, it is a personal asset and must be reported as an investment asset on the FAFSA. If the deed is in the name of the business, then it can be excluded on the FAFSA if the small business exclusion applies. For example, if the family owns a property which it rents to the business, that property is reported as an investment asset on the FAFSA because it is owned by the family, not the business.

Reading down the page, I found the bolded area.  What am I missing?

Here it is, about halfway down in the link you included. The bottom line is that residential rental property will NOT be excluded, regardless of how it is owned/titled (unless it is somehow used in a business that provides actual services):

Rental Property

"Occasionally a family will try to characterize a rental property as a small business in order to have it excluded as an asset on the FAFSA. For example, the family might own a vacation home which they rent when they aren't using it themselves.

This situation is addressed in a margin note on page AVG-19 of the 2006-2007 Application and Verification Guide:

    At times a student or parent will claim rental property is a business. Generally, it must be reported as real estate instead. A rental property would have to be part of a formally recognized business to be reported as such, and it usually would provide additional services like regular cleaning, linen, or maid service.

This note mirrors the language from "How To Report Rental Income and Expenses" on page 16 of IRS Publication 527, Residential Rental Property (Including Rental of Vacation Homes). This section of Publication 527 discusses whether rental income is reported on Schedule E or on Schedule C or Schedule C-EZ of IRS Form 1040. In order to file Schedule C or Schedule C-EZ, the taxpayer must "provide significant services that are primarily for your tenant's convenience, such as regular cleaning, changing linen, or maid service". It continues "Significant services do not include the furnishing of heat and light, cleaning of public areas, trash collection, etc.".

Note that the verification guide is not merely saying that the type of schedule filed indicates whether the rental property is a business asset or not, but rather referring to the same underlying criteria. So while Schedule C or Schedule C-EZ can be an indication of a business, college financial aid administrators will examine the schedule looking for signs of "significant services" besides basic utilities. They may also want to see evidence that the family is treating it as a business, such as registration with the local municipality and the state, an employer identification number (EIN), a fictitious name registration, a separate business checking account and so on. It is not just which schedule was filed, but whether the taxpayer was entitled to file that schedule.

On the other hand, if the rental income is reported on Schedule E, it is always reported as an investment asset on the FAFSA. Personal use of the rental property (e.g., as a vacation home) or minimal rental use would also tend to indicate that the rental property is not a business asset. "

[johnny847]

I know this is an old topic, but I was drafting my 2015 tax returns and thought of something. Does the 1040A allow you to claim the foreign tax credit? If you have international funds that issue dividends, then it is (as far as I understand it) guaranteed that you will qualify for the foreign tax credit.

Well one of the conditions of using the 1040A is

The only credits you are claiming are the credit for child and dependent care expenses, the credit for the elderly or the disabled, education credits, the retirement savings contributions credit, the child tax credit, the additional child tax credit, the earned income credit, and/or the premium tax credit, and

Meaning if youre are claiming the foreign tax credit (and I'm sure there are more that weren't listed above), you cannot file the 1040A, which would disqualify you from the simplified FAFSA formulas that ignore assets.

But it says claim. Not qualify to claim. So I'm pretty sure you could just not claim the foreign tax credit and still qualify for the 1040A.


(This is an old thread and I'm sure it's been mentioned before, but as a side note you cannot have any sales of assets that result in capital gains/losses - such as stocks and mutual funds - because that would force you to file schedule D which is only allowed on the 1040. However, the 1040A does allow for dividends and capital gains distributions, which can lead to an interesting incentive - you may want to consider switching some of your stock funds to ones that yield higher dividends. Just be careful not to let the FAFSA tail wag the dog.)

[madamwitty]

Interesting! Thanks for pointing this out.