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- Chapter 13
Educational Planning
1
- Chapter Goals
Create an educational planning policy.
Calculate the amount of educational savings needed
annually.
Establish the relevance of educational planning to
overall needs.
Select the proper educational structure for savings.
Differentiate the educational investment policy from
others.
Identify the financial literacy problem and what can
be done about it.
2
- Overview
Educational planning: The programming of direct
financial and time resources that enables household
members to improve their capabilities, typically
through enrolling at a college or university.
We can estimate educational cost and savings
needed to fund education well before the actual
event, best reflected in an education policy
statement.
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- Overview, cont.
The steps in the educational policy statement
process are as follows:
– Establish educational goals.
– Calculate the cost of education.
– Project the potential for financial aid.
– Estimate the total cost for parents.
– Determine best savings structures.
– Establish investment policy.
– Estimate the amount of annual funding needed.
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- Establish Educational Goal and
Calculate the Cost of Education
Establish Educational Goal:
– The overall goal is to provide a quality education that enables
the recipient to receive a high return on investment.
Calculate the Cost of Education:
– Will vary depending on the type of school, region of the country,
and whether the student lives at home or at school. Expenses
include tuition, books, rent, food, entertainment and
transportation costs.
– In projecting college costs, a figure in excess of the overall
inflation rate is generally called for.
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- Project the Potential for Financial Aid
All government aid applied for through Free
Application for Federal Student Aid (FAFSA) which
is offered by U.S. Department of Education. Early
application for those eligible for aid increase
chance of receiving aid.
Grants:
– Pell grants for undergraduates (maximum of $4,000).
– Federal Supplementary Education Opportunity Grants
(FSEOG) are for undergraduates with particularly low
family income.
– Colleges, states, corporations, or other institutions may
6 provide aid.
- Project the Potential for Financial Aid, cont.
Work-Study Programs:
– The program may be set up by the Federal government as
part of a grant or by the college itself.
Loans:
– Stafford loans: Rate is a maximum of 8.3 percent
regardless of market rates. For 2004-2005 the rate charge
is 3.4 percent. The student is responsible.
– Federal PLUS loans: Rate is 4.2 percent for 2004-2005.
The parents are responsible.
– Federal Perkins loans: Low-interest loans for graduate
and undergraduate students who have exceptional need.
Rate is 5 percent.
– Home equity loans: Under current regulations, interests
payments on student loans are tax deductible up to
$2,500 as of 2004.
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- Estimate the Total Cost for Parents
Once the full education cost is known and the
amount of any financial aid package has been
estimated it is possible to estimate the parental
cost.
Cost will vary depending on how much or what
fraction of it parents are willing and able to assume.
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- Determine Best Savings Structures
Coverdell Education Savings Accounts:
– Special savings accounts set up with after-tax dollars for
educational purposes.
– A maximum of $2,000 can be contributed for each child
each year with annual income limitations of $95,000-
$110,000 for individuals and $190,000-$220,000 for
people filing jointly.
– Income earned while in the account is not subject to
federal taxation and is tax advantaged for many states as
well.
– The tax benefit in 2005 is phased out for annual incomes
between $95,000 and $110,000 for individuals and
$190,000-$220,000 for people filing jointly.
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- Determine Best Savings Structures,
cont.
Qualified Tuition Plans – Section 529 Plans:
– Prepaid plans provide advance payment of monies to the
state. If required minimums are met, the student may
attend a state college at no further charge.
– Private savings plans employ after-tax dollars as deposits.
There is no further federal taxation, provided the funds
are used for a broad variety of college expenses. The tax-
free distribution program is in effect through 2010.
– No income qualifications for this program.
– Run by the individual states. Many states allow
cumulative deposits of $200,000 or more.
– Monies for these programs are deposited with a state-
designated investment advisory firm, which establishes
the investment program.
10
- Determine Best Savings Structures,
cont.
Qualified Tuition Plans – Section 529 Plans, cont.:
– Must be used for qualified withdrawals otherwise a 10
percent penalty will be incurred.
– Funds in the account can be used by the beneficiary to
attend any post secondary educational institution that can
participate in the Department of Education’s student aid
program, including foreign schools.
– Contributions must be in cash.
– Funds from existing custodian accounts can be
transferred into a 529 plan but they retain the character of
a custodian account.
– Leftover funds can be rolled over to relatives for their use.
– Qualified rollovers include a father, mother, brother, sister,
and a first cousin of the beneficiary. The 529 plan is
treated as a parental asset for educational aid purposes.
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- Determine Best Savings Structures,
cont.
Regular Investment Accounts:
– Ordinary savings accounts with no special educational
benefits.
– Now more competitive due to special educational
accounts under the Jobs and Growth Tax Relief
Reconciliation Act of 2003.
– Qualified dividends and capital gains on stocks and stock
mutual funds are now taxed at a maximum of 15 percent
on a federal basis.
– If assets are placed in the child’s name, the first $800
annually is not taxed at all and the next $800 is taxed at
the child’s rate. If the child is 14 or over, the balance will
be taxed at the child’s low tax rate.
– Regular investment accounts allow ultimate flexibility. You
can place the money in any form of investment you wish
12 and make withdrawals for any purpose without penalty.
- Determine Best Savings Structures,
cont.
Other:
– Regular IRAs and Roth IRAs may be used to fund
educational programs. Amounts deposited grow tax-free
and withdrawals for educational purposes for regular IRAs
are not subject to the 10 percent early distribution tax.
– The Uniform Gifts to Minors Act (UGMA) and Uniform
Trust for Minors Act (UTMA) can be used to fund college
monies.
– UGMAs are restricted to financial assets as investment
vehicles.
– UTMAs can use real estate, limited partnerships, and
other investment vehicles as well as financial assets.
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- Establish Investment Policy and Estimate
the Amount of Annual Funding Needed
Establish Investment Policy:
– Investment policy is based on risk and return.
– The risk of a disappointing outcome grows as the period to
college payment date draws nearer and nearer.
– Therefore, the allocation to bonds and money market
assets will typically increase as the time to age 18 or
another starting date draws closer.
Estimate the Amount of Annual Funding Needed:
– At this point all the quantitative inputs that are required
have been established.
14
- Planning for Financial Literacy
Financial literacy refers to being educated in
financial matters.
– In practical terms financial literacy means being able to
make financial decisions capably.
– Many finance and economics theories assume that people
have perfect knowledge of financial issues. Obviously,
this is not the case.
– The CFP Board of Standards requires that financial
planners hold frequent meetings with their clients to
educate them about the financial planning process and
their own financial situation.
– Thus, giving clients proper recommendations is not a
CFP’s only responsibility. The planner should make sure
the client understands the advice.
15
- Planning for Financial Literacy, cont.
The absence of financial literacy has important
financial consequences.
– For many households the outcome is a lower accumulation of
wealth and therefore a reduced standard of living.
– In some more extreme cases it leads to financial ruin.
– From an economic standpoint it results in a misallocation of
resources that affects society’s productivity.
There are many reasons why individuals are not adept
in financial matters.
– A lack of exposure to financial issues as a child.
– A belief that financial issues cannot be handled capably.
– Poor mathematical skills.
– A lack of interest in the subject.
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– Gender related issues
- Planning for Financial Literacy, cont.
Fostering greater financial awareness could be
beneficial to many households.
Developing this awareness may be particularly
important at the present time when:
– People are being asked to make more of their own
savings and investment decisions regarding retirement in
401(k) and other pension plans.
– Investment alternatives are growing in number.
– Some people are calling for do-it-yourself Social Security
investing.
17
- Planning for Financial Literacy, cont.
Planning for financial literacy can occur at any age
and ranges from presenting simple financial tasks
to children at home or in classroom settings to
concentrated education when a surviving member
assumes the household financial responsibilities
previously handled by a deceased spouse.
Awareness can come from a number of sources
including radio, television, books, newspapers,
magazines, newsletters, audio or video tapes and
discs, friends, relatives, advisors, and so on.
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- Planning for Financial Literacy, cont.
Basic financial literacy principles:
– Simplicity: Financial issues are daunting to many people.
Topics should be simple to explain and understand.
– Easy to Relate To: The items described should be easy to
relate to, and emphasize everyday situations.
– Practical Examples: It is not enough to demonstrate how
financial items relate to people’s lives. Practical examples
with worked-out solutions should be established to assure
an understanding and ability to implement them.
– Use a Process Approach: A detailed step-by-step
approach will help people understand why something is
being done and provide a systematic approach.
(Continued next slide)
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- Planning for Financial Literacy, cont.
Basic financial literacy principles, cont.:
– Accommodate Different Learning Styles: People have
different learning styles. Some learn best from lectures,
discussions; others from reading; and others from
illustrations, numbers, and tables, etc. A combination of
approaches often works well.
– Provide the Benefits: Since financial issues can be difficult
to understand, people need benefits for doing so. The
more tangible and meaningful the benefits, the greater can
be their motivation and therefore the greater their success
rate in obtaining the requisite knowledge.
– Other Principles: When an outside person is providing the
knowledge, an interesting style, reassuring manner, and
dialogue with solicitation of questions can be helpful.
Using a game approach such as a stock market game
may also be useful.
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