It can be exciting and a little scary when your first child enters college. One of the scariest parts is paying for it. To help save money for those five-figure bills, you should establish a federally permitted 529 plan. If you want to try to get some financial help to pay for college you’ll also be filling out the Free Application for Federal Student Aid (FAFSA). If the parents of a college student are divorced or were never married, what needs to be disclosed on the FAFSA? These are the topics of this week’s blog post.

A 529 savings plan has tax advantages to encourage saving for future college costs. These plans, known as “qualified tuition plans”, are sponsored by many states, state agencies, or educational institutions. They get their name from Section 529 of the Internal Revenue Code, which permits their use.

These accounts are owned by the student or the student’s parents and must be reported as an investment asset on the FAFSA, whether funded by the custodial or non-custodial parent.

It’s easy to get confused about who’s the 529 plan’s owner, beneficiary, and custodian. Every plan has an account owner and a beneficiary. The owner controls the account. The beneficiary is the student who benefits from the funds. Normally, but not always, a parent is the account owner and the student is the beneficiary.

Sometimes the student is the account owner and the beneficiary. Minor children can’t own investments in many states, so money is invested in a custodial version of a 529 plan account where the custodian (usually a parent) makes decisions on behalf of the student until he or she reaches the age of majority. These “custodial accounts” include accounts developed under the Uniform Gifts to Minors Act (UGMA) and the Uniform Transfer to Minors Act (UTMA), so are sometimes called UGMA or UTMA accounts.

UGMA or UTMA accounts involve deposits into an account with a custodian, who oversees the assets. The custodial account provides a way for a child to benefit from assets without controlling them. The custodian can control the account on behalf of the child and the child is considered the account owner, not the custodian.

If a student owns a 529 college savings plan and is deemed independent of his or her parents, the student needs to report the plan’s value as a student investment on the FAFSA. It’s treated as a parental asset on the FAFSA. This is probably a good thing because student assets are weighed more heavily than parental assets in financial aid decisions.

If a student’s parents are divorced, only the parent with whom the student lived the most during the twelve months just prior to the FAFSA filing must complete the FAFSA. This parent is considered the custodial parent, and the other is the non-custodial parent. Only the custodial parent’s income and assets (plus the step-parent’s income and assets, if a party has remarried) must be reported on the student’s FAFSA. The non-custodial parent’s income and assets are ignored.

No matter which parent is the custodian, the student or preparer needs to list the custodial parent on the FAFSA form. With a custodial 529 plan, the custodian is a placeholder for the student, not the account owner. The custodial 529 plan account is owned by the student, and if the student is a dependent student, it’s treated as an asset of the parent who completes the FAFSA.

If a non-custodial parent owns and is the custodian of a 529 college savings plan, that plan is not reported as an asset on the student’s FAFSA, but distributions from the 529 plan are reported as untaxed income to the student. This can severely and negatively impact the student’s eligibility for needs-based aid.

There are two possible ways around this. You can change the account owner from the non-custodial parent to the custodial parent or wait until the child’s college senior year to take a distribution from the 529 plan account. That way, there will be no subsequent FAFSA to be impacted.

If you are considering a divorce and have concerns about how it will financially impact your children and you, call the Central Jersey law offices of Hanan M. Isaacs, P.C., at 609-683-7400, or contact us online.  Schedule a near-term reduced fee initial consultation.  We will listen to your facts, explain the applicable laws, and advise you about your best options to protect your legal rights and interests.  Call now.  You will be glad you did.