Will a 529 Plan Hurt My Child's Chance for Financial Aid?

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Many parents fear that college savings in a 529 plan will prevent their kids from getting financial aid. It’s a common fear, but thankfully, your college savings have a small impact on your future financial aid awards. When it is time to start paying for college, you’ll be happy you diligently saved for your child’s future.

In this article, we discuss how the 529 plans work, how financial aid works, and how the two work together. Learning more about how financial aid works provides a better long-term view of the issue and reveals what a 529 plan can and can't do for you.

Key Takeaways

  • Having savings in a 529 plan could lower the amount of financial aid your child gets for college by a small amount, but the benefits outweigh that loss.
  • Savings from a 529 plan could prevent your child from needing loans, or lower the amount they'll need to borrow.
  • The 529 plan should be owned by the parent, not the child, to lower the impact to your child's financial aid.

How 529 Plans Work

When you open a 529 plan, you set aside money specifically for your child’s education; this specific type of account has some clear tax advantages over other savings. (Your earnings grow tax-free and won't be taxed when the money is taken out for qualified education expenses.) Once your child is ready for school, the money you contributed plus the interest you’ve grown can be used to pay for college.

Even if your child gets financial aid, your family may need to contribute to their college costs. A 529 plan ensures you have money ready and waiting when you need it for college expenses. Both the 529 savings and other financial assets are used when financial aid is determined. The process begins with a FAFSA application for student aid.

How the FAFSA Works

The Free Application for Federal Student Aid (FAFSA) is the application used by families to apply for federal aid for college, including grants, loans, and work-study funding. FAFSA is managed by the United States Department of Education and provides over $112 billion to college students every year.

You should complete the FAFSA even if you are not sure you qualify for a Federal grant or loan. Most schools use this standardized form to determine scholarships as well as grants and loans.

Once your FAFSA is complete, you’ll know the amount of money your family is expected to contribute towards your child’s education. That figure, called the “Expected Family Contribution,” or EFC, is used to determine how much aid your child will receive. The aid available to you will depend on the cost of attending (COA) the school they have chosen.

Note

The expected family contribution will be phased out and replaced with the student aid index beginning with the 2024-2025 award year. This change is part of the FAFSA Simplification Act, designed to make the FAFSA easier to fill out and easier to understand for students and families.

While this formula works on paper, the financial package that is actually awarded often falls short of actually filling the gap. A financial aid package could include grants (which do not have to be paid back) and loans but may not cover all of your costs. College savings come in handy at this point, allowing you to bridge the gap between your COA and your EFC.

529 Plans and Financial Aid

You’ve created a 529 plan, added to it faithfully, and now your child is ready to attend their top choice school. That fund will help you pay for college, but it will have a minor impact on your total financial aid award. Both the owner of the fund and your household income matter when you look at your 529 plan and how it will impact your costs long term.

Who Owns the 529 Plan?

Your assets are part of the equation when your financial aid is determined, and a 529 savings plan is considered an asset. The ownership of that asset matters and will have a significant impact on how much you end up contributing. Parental assets are calculated differently than student assets, so if you, the parent, own the account, it is more beneficial for your bottom line.

Calculating Your Expected Family Contribution

  • Parent-Owned: Up to 5.64%
  • Student-Owned: Up to 20%

When the parent owns the 529 accounts, only 5.64% of the amount saved is counted when your EFC is calculated, resulting in a larger financial aid package for the student. Parental age plays a role too; the age of the oldest parent can impact how much your 529 savings count toward your child’s college costs. This Asset Protection Allowance shelters some income for older parents and is greatest for married parents age 65 and older.

The Asset Protection Allowance is intended to protect parents' assets so they have enough for retirement. It's meant to cover the difference between average Social Security benefits and a moderate family income.

Note

Because Social Security benefits have been rising for more than a decade while moderate family income has remained stable, the asset protection allowance has been plummeting from its peak in 2009-10. It is now $0 for single parents of all ages for the 2022-23 school year. For married parents age 65 or over, the allowance is $5,900, down from $84,000 in 2009-10.

How Your 529 College Savings Impact Your EFC

How much does your 529 savings impact your child's financial aid awards? It depends on how much you save, your other assets, and even your household size. A look at two hypothetical families reveals how a typical 529 savings account would impact the overall cost of college.

Both the Smith and the Jones families live in California and have kids heading off to the same school this year; tuition costs $50,000 per year. The Smiths have saved $75,000 in a 529 plan; the Jones family never got around to starting a savings account at all. Both families have the same income and family size.

For the Smiths, having that extra savings means their family contribution goes up a bit; that additional $75,000 in savings means their overall EFC for the first year of school is $15,936, using an EFC quick calculator and an adjusted gross income of $70,000. They withdraw the amount needed from their 529 plan to pay for the school year.

For the Jones family with no savings, the EFC for the same first year would be $11,706, using the calculator and the same income and family figures.

To Save or Not to Save?

The Smith family savers find that their 529 fund impacts their financial aid award by about $4,200 each year; they use the money saved to pay their EFC each year. At the end of the four years of school, their child graduates with little or no student loan debt since funds were available to pay for school.

The Jones family didn’t save money but received about $4,200 more in financial aid than their saving counterparts. They need to cover their EFC and do so with student loans. When their child graduates, they do so with roughly $50,000 in student loans that they need to begin paying back within a year of graduation.

The bottom line for college savings is that the funds you set aside in a 529 plan will have a minor impact on your financial aid award each year, but having those funds available will drastically reduce the total amount of student loans you need to apply for each year.

These calculations apply to only money invested in a 529 plan. Withdrawing from your retirement savings or a regular savings account won’t get you the same tax advantages nor offer the same benefits when you are ready to pay for college.

Frequently Asked Questions (FAQs)

Does a grandparent 529 affect financial aid?

A grandparent's 529 plan doesn't have to be reported as an asset on the FAFSA. But any distributions from that 529 have to be reported as cash support on future FAFSAs. In other words, they're considered income, and that can have a big income on aid eligibility.

However, a new FAFSA form will come into effect for the 2024-2025 school year and it no longer requires students to disclose cash support. That means grandparent 529s will no longer impact the student's needs-based financial aid eligibility.

What are the disadvantages of 529 plans?

One disadvantage of 529 plans is that they do impact the amount of financial aid you're eligible for, though that impact is mild compared to the long-term benefits. Another thing to be aware of is that there are penalties for spending funds on non-educational expenses or for withdrawing funds at the wrong time or for the wrong amount.

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Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
  1. U.S. Securities and Exchange Commission. "An Introduction to 529 Plans."

  2. Federal Student Aid. "About Us."

  3. U.S. Department of Education. "What Is Expected Family Contribution?"

  4. Congressional Research Service. "The FAFSA Simplification Act."

  5. USC Center for Higher Education Policy Analysis. "IDAs and Financial Aid: Understanding the Puzzle and Sharing Best Practices," Page 27.

  6. Federal Register. "Vol. 86, No. 135/Monday, July 19, 2021/Notices."

  7. Columbia Threadneedle Investments. "Why Grandparents Have Greater Incentive To Own 529 Accounts."

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