For affluent families who do not qualify for need-based financial aid, there are other education planning opportunities to consider. In addition to a competitive appeal financial aid strategy to lower private college tuition, there are income tax planning moves to lower the parents’ income tax liability as well. These “tax scholarships” can create additional college savings, especially if you start when the children are young and the savings are invested on a tax-advantaged, compounding basis.
Although the Kiddie Tax federal income tax laws have reduced the benefit of income shifting as a tax strategy for minor children, Pennsylvania residents have a unique planning opportunity using custodial (“UTMA”) accounts. Pennsylvania allows a UTMA custody account to control investment assets until the beneficiary turns age 25, which opens up income shifting opportunities once the child reaches age 18.
Families that own a small business can employ their minor child and pay them wage income (earned income is not subject to the Kiddie Tax), allowing them to fund an IRA in the child’s name for the lesser of the IRA contribution maximum or the child’s earned income. An IRA in the child’s name can be an excellent tax-advantaged education savings fund because IRA withdrawals to pay for higher education are not subject to an early withdrawal penalty.
Finally, for parents whose taxable income disqualifies them for federal education tax credits, income shifting to a child age 18 and older could enable the child to take the tax credits on their personal tax return.
We specialize in helping parents reduce the cost of higher education as an obstacle in their retirement planning. Tax-based education planning obviously requires technical expertise, so seek the counsel of a qualified tax professional or contact us before taking any tax planning action.
