To answer this question, first you have to ask yourself several more.
The first question is, can you afford to pay your grandchildren’s college tuition? If not, that’s the end of the discussion. Being able to afford it is not just a matter of having enough money on hand right now. It’s also important to determine if funding your grandchildren’s education will endanger your ability to fund your own retirement.
Then there are the non-financial issues. Will your grandchildren value their education? As cold-blooded as this may sound, are they a “good investment”? For example, how would you feel if you were paying for your grandchild’s college education and after two years he dropped out? The answer will vary from family to family and grandchild to grandchild. It’s your money. You are free to treat each grandchild differently, based on the situation.
Assuming you have the financial means and the desire to do this, paying your grandchildren’s college tuition (and other related costs) is a great way to transfer wealth to subsequent generations of your family.
In my opinion, this is a gift to both your grandchildren and your children. As the parent of a current college student and a high school senior (plus a college graduate), I would have welcomed the support of my parents if that had been an option. Even with scholarships and other financial aid, college costs are a burden on parents and students.
If you’re thinking about paying your grandchild’s tuition, here are some strategies to consider:
Pay the tuition directly. Currently, the gift tax exclusion is $13,000 per person per year. This means you can give $13,000 to whomever you want each year without having to pay gift taxes or having this amount deducted from your unified gift and estate tax credit. If you are married, you can double this annual gift tax amount.
However, if you pay the tuition directly to the educational institution, this amount is exempt from gift taxes and doesn’t count against the unified credit. This only applies to the cost of tuition, but you could also combine the direct payment with a regular gift if you want to cover additional costs such as room and board, books, etc.
One caution: A gift is just that—a gift. If you put stipulations on the gift, it doesn’t qualify. Be sure that the recipient will spend the money on college costs before making the gift. (If you’re looking to give or lend money to your grandchildren for another purpose, check out my post on lending money to family members.)
Contribute to a 529 college savings plan. These plans are offered on the state level. They generally come in two flavors: accounts that allow for the use of various investment options (individually or in age-based funds) or prepaid tuition plans that allow you to buy “units” of future tuition at institutions in your state.
If the child beneficiary doesn’t attend a school in the program, there are allowances for the benefit to be used elsewhere. A grandparent (or anyone else) can make contributions annually up to the gifting limits described above. Alternatively, you can make a lump-sum contribution of five years’ worth of gifts ($65,000, or $130,000 for a married couple) to each grandchild’s account.
This is not only a great way to fund all or a portion of a grandchild’s education, but it is also an excellent estate-planning vehicle for wealthy grandparents who want to remove assets from their estate.
The 529 accounts are not owned by the grandchild, but typically by one of the parents, with the other parent as the contingent owner. The owner does not have to be a parent, however. Unlike the old custodial accounts, these accounts never become the property of the child beneficiary, so if the child decides to ride off into the sunset with her “true love” at eighteen instead of attending college, she can’t get her hands on the money.
Another note of caution: Several of the prepaid tuition plans have run into financial problems and have declared that they may be unable to fulfill the promise of prepaid tuition.
Whether you choose to directly pay some or all of a grandchild’s tuition, give him a direct gift, or fund a 529 savings plan, all of these options allow you to transfer assets from your own estate to your grandchildren. These strategies are also a great way for you to give, in my opinion, the greatest gift of all—a college education and the lifetime of opportunity that it can provide.
Roger Wohlner, CFP® is a fee-only financial advisor at Asset Strategy Consultants. Roger provides advice to individual clients, retirement plan sponsors and participants, foundations, and endowments. Follow Roger on Twitter; connect with him on LinkedIn.