How to Compare College Financial Aid Award Letters to Avoid Buyer’s Remorse
By Joe Messinger, CFP®
March 18, 2016
March 15th is typically a time when financial aid award letters from colleges are received by families. They have already been through the college application process in the fall and hopefully they got everything in on time. They also should have already applied for financial aid via the FAFSA (Free Application for Federal Student Aid)—ideally by January 15th for those that are seniors in order to meet the priority filing deadline for financial aid that is as early as February 1st. Your student has been accepted, you have the financial aid award letter, and you are struggling to compare one to the other to find the best fit your for family. What to do?
(As a side note regarding the FAFSA, going forward the FAFSA will need to be filled as early as October 1st of the senior year ensuring you are at the front of the line to get as much financial aid as possible from the different institutions. Be aware each school may have their own requirements in relation to not only how to apply for need based financial aid but also for scholarships, and they may have separate deadlines. With 2017’s graduating class, many FAFSA and financial aid procedures will be changing and evolving so we are not sure what exactly the new process is going to look like. The 2017 class is going to have a lot of changes so we need to make sure we know exactly how it is going to work. We do know October 1st will be the open date so filing by November 1st will be our recommendation.)
As your family receives the financial aid award letters, the key is to know how to decode them. You need to be aware of a couple of things in this process:
1) Look out for “front loaded” financial aid award letters.
2) Are scholarships renewable? If so, is it for 4 or 5 years?
3) Determine what is self-help vs. gift aid. What is money that you either have to work for or pay back later and what money is truly gift aid that you don’t have to pay back?
4) What is the net price of each school that your family is expected to pay out of pocket?
5) What is the total loan amount, and what will be the loan payment?
6) How will you strategically fund all 4 years of college down to the penny? (Don’t forget to factor in tuition increases.)
What does a “front loaded” financial aid award letter look like? When you are looking through the details of a financial aid award letter, one of the things you want to look for when awarded a scholarship or a grant is whether it is renewable or not. Front loading occurs when they give you a $2,000 or $3,000 scholarship but only for the freshman year. When you are looking at the total cost, it may look lower but only for the first year. Front loading is a tactic used by colleges and universities to make it appear that every year is going to have this discount applied. You need to be cautious and understand what all four years will look like.
A renewable scholarship typically means students are going to have to meet certain criteria based on their GPA–often a 3.0 or a 3.2. Typically if they maintain the GPA requirement, the scholarship will remain in place.
With more and more students not graduating in four years from certain programs, you may also need to consider whether an award is renewable for four years or five years. If you are in a 5-year program and on average students in your major don’t get done in 4 years, make sure your aid award renews in the fifth year. If you don’t graduate in four years and go on to a fifth year and that $10,000 scholarship goes away, that money comes out of your pocket in the fifth year. Families need to be very careful to identify if a financial aid offer is front loaded, if it is it renewable, if so for how long, and what are the requirements on your award.
When you are reading financial aid award letters, be careful to distinguish between self-help and gift aid. Self-help include loans and work study programs. On the loan side, the first way that many schools will award aid is through the Federal Direct Stafford Loan Program. Subsidized Stafford loans are need based. In your freshman year, you can get a maximum loan of $3,500 that is subsidized. Subsidized means you don’t pay interest while you are in school. No interest accrues while you are a full time undergraduate student. There is a small origination fee to take out the loan of around 1%. It is a need based program based on the cost of attendance minus the Expected Family Contribution (EFC) and is the most common way financial aid is awarded.
The other type of Federal Direct Stafford loan is not need based. It is considered unsubsidized. The main difference is the unsubsidized loan is offered to everybody. You don’t have to qualify. Everybody is offered this loan as long as the school is linked up with the federal system, and you file your FAFSA.
In total between the subsidized and the unsubsidized loan program, you can have as much as $5,500 for the freshman year, $6,500 for the sophomore, $7,500 for the junior, and $7,500 for the senior year, for a total of $27,000 over four years. If you go to a fifth year, you are allowed to take up to $31,000 total in Federal Direct Stafford loans over the 5-year period. So the four year maximum is $27,000, and the five year maximum is $31,000. When you are looking at an aid package, identify whether loans are part of the offer realizing that it is money you will have to pay back at some point.
Another thing to be cautious of is if they include work study on your financial aid award letter. If they put work study in the offer, that money can help pay for college. Work study money is considered financial aid though. It is a need based program, and it is considered a stipend. It is non-taxable which is great. Students can make money, and they can choose to take it or apply it toward their tuition bill.
When you look at work study, you really need to be careful. Do you want your student working? Is your student someone you want to have working especially in that freshman year? In addition, consider is that money going to be applied towards tuition or is that money needed for extra living expenses–walking around money so to speak. When they put work study on the aid award letter, they will show a reduced amount due. Be careful because although you don’t have to pay today, you will have to work to earn it. Make sure you are looking at that carefully.
The last piece on self-help would be the Parent Plus loan which is a federal loan program that we have seen a lot of families get into big trouble with. The Parent Plus loan is not a need based program. Every parent will qualify for it. Many schools will show that you can make up any gap between the cost and the aid with a Parent Plus loan. You can get a Parent Plus loan up to the entire cost of attendance at the university. If a school costs $25,000, you can take out a Parent Plus loan for up to $25,000 minus any scholarships and other aid. If the school costs $25,000 and they gave you a $10,000 scholarship, you can take out up to $15,000 in a Parent Plus loan.
The problem with filling the gap with a Parent Plus loan is people don’t begin with the end in mind–thinking about what the total loan balance will be at the end of four years. There is very easy money there. The loan only takes 48 to 72 hours, and you can be approved for a significant amount. If you took out $25,000 per year over four years, the parent finds themselves with $100,000 liability. Most parents we see are in their 40s to early 50s, and they would like to retire someday. If you take that amount of student loan out, you’ve essentially got a new mortgage. So we’re very cautious about Parent Plus loans because of the way they show up on the aid award letter. Yes, money is available, but only take those dollars if it is really to fund a small gap. Last note on the Parent Plus loan, the interest rate is currently 6.84%, but it does adjust every year in July. The Parent Plus Loan also comes with a HEFTY 4.272% origination fee. OUCH!
While we’re on the topic of loans, we advocate that you know down to the penny how much you expect to need in loans to fund education over all four years. A couple of reasons this knowledge is important. We always advocate you should never take out more in student loans than you anticipate making in the first year of your career. That ensures you won’t have an over burdensome student loan payment on the back end. We want to know the total loan amount for four years because that really tells us if this institution is worth it to get the degree we want. So if we’re going to come out making $40,000, you should not take out more than $40,000 in student loans. Even above that, we suggest not taking more than the total Federal Stafford loan we talked about before. $27,000 in student loans is manageable but is also a serious debt as you are starting out. Finding schools with a net cost that doesn’t have your student taking on more than $27,000 is a great goal.
Also be aware, the Stafford loans are use it or lose it loans meaning you have a certain amount available each year and if you don’t take that amount, you cannot take it in a future year. Sometimes people will say we have some money set aside so we’ll just pay for the freshman year out of our 529 college savings plan, and then we’ll take out loans later on in the education. Remember you are capped at a certain amount each year. You may find yourself short on a future year because of the caps.
Federal Stafford loans are some of the best loans you can get due to competitive interest rates and flexibility upon repayment. If you think you will need to cover a gap with loans, knowing what the total amount to fund the education over all four years can allow you to plan how to use Stafford loans and your other resources equally over time to avoid a gap. The main takeaway…avoid Parent Plus loans or private student loans by utilizing everything you can from the Stafford loan program each year first.
By knowing the total student loan amount, you can project the total student loan payment on a 10-year standard repayment schedule. The loan providers are more than happy to have you stretch these payments out over 20 plus years because they make twice as much interest from you. Also, do you really still want to be paying off student loans when you are 45? Compare each institution side by side, and project what the total loan amount you would take will be and also what the monthly payment will be when your student graduates. Knowing the monthly payment make’s it real! You can find good tools online to estimate a student loan payment.
When you compare eight award letters side by side, the key is really mapping it out for the full cost of education. In other words, what is the cost of attendance today and what will be the cost in future years. We know most schools are going to increase costs and tuition over those four years. If your tuition cost is one thing today, be aware most schools will raise that price anywhere from 3 to 6% per year. Factoring those annual increases in when you are looking at the total cost is really important. Many schools are now touting tuition locks for all 4 years you attend so factor that into your decision as well!
When looking at net cost, evaluate the total cost of the education. If you were to go shopping for a new car, you have a lot of options in every class. For some, the added amenities of a luxury sedan like a Lexus or a Mercedes are well worth the 20 to 30 thousand dollar premium. But for others, a Honda or Toyota suits their needs just fine. So lets say school A will cost you $75,000 out of pocket. School B is going to cost us $125,000 out of pocket or $50,000 more. We challenge people to think about whether the extra cost or premium is worth going to institution B. Is it worth $50,000 more? Is it worth that much more money to go to that institution for that degree in that major to potentially get XYZ job?
Sometimes I would say it absolutely is. But many times if you are really looking at it in terms of added value, you may find it is not worth that premium. For example, if your goal is to teach elementary education your salary will be exactly the same regardless of where you have a degree. If you have the resources and money is no issue, then choose the school you really think would be the best fit for you. But for most families, you need to figure out where the best value is, where you can get the best education for the lowest cost to give your child the best opportunity to have a successful career down the road. Ask the college what job placement looks like, what the average salaries are for the graduating class from your major so you can compare the value of one degree over another. Is it really worth paying more to a certain institution? Is it worth the premium?
Don’t forget about graduate school when looking at the big picture. Many students are very talented, and you won’t want to rule out graduate school as a part of your equation. Will the field they want to get into require additional masters or doctoral work? You may not know for sure, but for a lot of kids that are extremely gifted, graduate school is highly likely. I bring that up because sometimes kids will get admitted into top institutions like MIT or Stanford, but because of the family’s finances they would have to pay full price to go to those schools. Other schools like Ohio State may give you a full ride allowing you to not take on any debt and put your resources towards graduate school. The graduate school in many majors is much more important than the undergraduate as long as you are going to a good institution that can lead you to getting into a good graduate program.
We often get questions about whether or not private scholarships impact our financial aid. The short answer is “it depends”. It depends on the institution. In general, your merit scholarship from the college that the student has earned based on their merit will not be impacted by their private scholarships. On the flip side, if you are a need based financial aid candidate and you are awarded private scholarships, many colleges and universities will reduce the amount of need based financial aid that they award to you as much as dollar for dollar.
So let’s say you had need based financial aid with a grant for $5,000, but you also had a scholarship you earned from the local Kiwanis club for $5,000. You have to let the university know about the scholarship because they are ultimately going to get a check from them, and many times the college will reduce your need based financial aid package dollar for dollar for whatever you earn from the private scholarship. If you are need based candidate and you are earning private scholarships, you can try to work with the institution to see how they can reduce that. Many colleges these days will give you less need based loans which is not a bad thing so keep on earning those scholarships. It is handled on a school by school basis, but if you are a need based candidate speak with the school individually to see if you are awarded private scholarships how does that impact your financial aid.
Overall it’s really about comparing your aid award letters side by side–apples to apples. Getting it down to what is scholarship vs. what is money we have to pay back and then ultimately what is the net cost. Looking at your financial aid award letter…How much is truly gift aid versus self-help? What is our net cost? What do you need to pay for? What is the total amount out-of-pocket? How are going to pay for it for all 4 years down to the penny? How much can you afford from cash flow? How much from assets? What type of scholarships are there? What is the total loan amount needed to fill the gap? The answers to these questions will get us to a true apples to apples comparison of school to school net cost.
The college years will no doubt be one of the most expensive periods of your life, and second only to your home will probably be the largest purchase you will ever make. Do your homework and know exactly what you are buying to ensure you don’t have buyers remorse on a $100,000 + purchase.
March 19, 2021