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How do 529 Plans Affect Financial Aid?
A 529 plan can affect college financial aid, but the impact of a 529 plan on financial aid is limited and will vary depending on who the account owner is:
FAFSA and 529 Plans Owned by the Parent or Student
- How are assets counted on the Free Application for Federal Student Aid (FAFSA)? Assets in accounts owned by a dependent student or one of their parents are considered parental assets on the FAFSA. Around the first $10,000 of parental assets fall under the asset protection allowance and won’t be counted in the Expected Family Contribution (EFC) calculation.
- What percentage of 529 assets are counted? For parents who save more than the allowance, only a maximum of 5.64% of parental assets are counted. This is quite favorable compared to other student assets, which are counted at 20%. Higher EFC means less financial aid.
- How are distributions treated? 529 plan distributions receive favorable treatment on the FAFSA. Qualified distributions from a student-owned or parent-owned 529 account to pay for this year’s college expenses are not included in the “base-year income” that would reduce college financial aid eligibility.
529 Plans Owned by Grandparents or Anyone Else
- Assets aren’t counted on the Free Application for Federal Student Aid (FAFSA)? Assets held in a 529 account owned by a grandparent, other relative or anyone else besides a dependent student or one of their parents will have no effect on the student’s FAFSA.
- How are distributions treated? When a grandparent withdraws the funds to pay for their grandchild’s college expenses, it will be counted as student income on the FAFSA. Student income is assessed at 50%, which means if a grandparent pays $5,000 of college costs it would reduce the student’s eligibility for aid by $2,500. Remember, higher EFC means less financial aid. One strategy to avoid this problem: if the student will graduate in four years, they can wait to contribute until after the student’s third semester of college, since the FAFSA looks at income from two years prior.
Your Plan may be Treated as an Asset
A 529 plan can be treated as an asset on the FAFSA if:
- It is owned by the student.
- If you’re considered an independent student and don’t have any dependents (other than your spouse), your 529 account could reduce your eligibility for financial aid by up to 20%.
- If you’re considered an independent student and have any dependents, your 529 account could reduce your eligibility for financial aid by up to 3.29%.
- It is owned by a parent or a dependent student.
- In either case, the 529 account will only be counted at a maximum of 5.64%. In other words, the EFC calculation assumes the family will use a maximum of 5.64% of their 529 account to pay for college.
- It will only be counted if total parental assets exceed around $10,000, as this amount is protected under the asset protection allowance.
- If the parent meets certain requirements, including having gross income of less than $50,000 per year, their assets are not considered at all on the FAFSA. Therefore, the 529 plan will not have any impact on the EFC and financial aid eligibility.
- If the parent also owns a 529 plan for another child, this may also be considered as a parental asset based on a range of factors. Learn more here.
Therefore, in terms of assets, 529 plans owned by parents, dependent students, or independent students without dependents may have a minimal impact on financial aid eligibility. Plans owned by independent students without dependents could have a greater impact and mean the student is eligible for less aid.
However, a 529 account that is owned by a grandparent, another family member, or anyone else won’t be treated as an asset on the FAFSA and won’t be considered in the EFC, though it could have an impact when it comes to distributions.
Distributions may be Treated as Income
Qualified distributions from 529 accounts owned by a parent or student will not be counted as income on the FAFSA and therefore will have no impact on eligibility for financial aid.
Currently, the opposite is true of grandparent-owned 529 plans: distributions from such plans are seen as student income on the FAFSA, which can have a negative impact on the amount of financial aid you’re eligible for. This can be significant, as student income is assessed at 50%, much more than parental assets, for example.
However, upcoming changes to the FAFSA are set to remove this roadblock – more on this later.
Examples of How a 529 Plan can Affect your FAFSA and Financial Aid
Here is a simplified example of the impact on financial aid of a parent-owned 529 account.
You file the FAFSA aid application when your child is a senior in high school. Let’s say you’ve exceeded the asset protection allowance and have a 529 savings account with $20,000 in it, of which $10,000 represents your original contribution and $10,000 is earnings.
YEAR 1
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YEAR 2
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Your child’s eligibility for federal financial aid this year will decrease by no more than 5.64% of the account value, or $1,128 ($20,000 x 5.64%). Assume there is no further appreciation in the account and you withdraw $5,000 in the fall to pay for the first semester college bills. |
You have $15,000 left in the account when your child applies for aid for sophomore year, and it will again be assessed up to 5.64% of the account value, increasing your EFC by up to $846 ($15,000 x 5.64%). |
And although the $5,000 withdrawal brought $2,500 of excluded earnings with it, none of it will be counted as income on the FAFSA.
The federal aid formula is more complicated than what is described here, but this gives you a general idea of how to calculate impact.
How Upcoming Changes to FAFSA will Affect 529 Plans
Upcoming changes to FAFSA will have an impact on how your 529 affects financial aid. Grandparent-owned 529 plan assets will have less of an impact on financial aid eligibility with the simplified FAFSA. These changes are due to come into effect with the 2023-2024 FAFSA which opens on 1 October 2022, and determines eligibility for the 2024-25 school year.
This is good news for financial aid and 529 plans, as students will be able to make withdrawals from all kinds of 529 accounts at any time during their studies with less impact on their eligibility for financial aid.
Be Prepared!
Sound complicated? It is. And we are only talking about the federal financial aid rules here — each college and university can (and most will) set its own rules when handing out its own need-based scholarships, and many schools are starting to adjust awards when they discover 529 accounts in the family. Also consider that the federal financial aid rules are subject to frequent change.
