We’ve recently seen a number of news stories with disturbing figures about the rising cost of college education, and the growing inability of graduates to pay off the debt they incur from student loans. In fact, recent studies reveal that student loan debt now exceeds credit card debt in the U.S.!
All of this has motivated many grandparents to find a way to help pay for their grandchildren’s college education. According to this article in the Wall Street Journal “Recent tax-law changes are making it easier for families to help pay education bills for multiple grandchildren and even future generations. But grandparents have to make some tough decisions first.”
For grandparents whose grandchildren are already in school there may be fewer tough decisions to make, these grandparents will find it easy to “pay an unlimited amount of tuition directly to an accredited school for their grandchildren's education without incurring any gift tax or using their exemption.” Additionally, under the annual gift tax exclusion, anybody—including grandparents—can “give up to $13,000 to an unlimited number of people each year free of tax.”
Grandparents with younger grandchildren are finding that they also now have more options if they want to contribute to their grandchild’s future college education. “Under the Tax Relief Act of 2010, the federal gift-tax exemption increases to $5 million from $1 million for individuals, as does the exemption for the generation-skipping tax... The changes make it easier to pass along money for education to future generations free of taxes—at least through 2012, after which the exemption is scheduled to revert to $1 million.” The only question is how is the best way to set aside the money until the child reaches college age?
The most popular method right now is for the grandparent to set up or contribute to a 529 College Savings plan for their grandchild. “Assets you contribute to a 529 account are no longer part of your estate. If you are the account owner, you can withdraw the assets later without penalty.” However, care must be taken with 529 plans because “When the assets are withdrawn they will be counted [for tax purposes] as the student's income.”
Other options for savings include “setting up a ‘pot trust,’ or dynasty trust, which names all of the grandchildren, including any future babies, as beneficiaries. The length of such a trust varies by state but generally can serve at least a few generations of college students.” Of course setting up a trust with such a long intended duration means choosing a trustee who is likely to outlive you. Many grantors choose one of their own children (a parent, aunt or uncle of their grandchildren) or a trusted financial advisor, although corporate trustees (such as a bank) are also an option.