College tuition and related expenses are rising. Costs for in-state students at reasonably priced public schools may exceed $20,000 per year. Even if you are a diligent saver, you may not have enough money to pay this bill for your children.
There are many ways to fund a college education or cover the shortfalls between your savings and the college’s invoice. These include winning scholarships; qualifying for and receiving financial aid, often in the form of student loans; earning income designated for school; and tapping home equity for college tuition.
You may wrestle with the idea of using a home equity loan or HELOC vs. asking your child to take out student loans. On the one hand, you may be able to borrow at low rates plus get a tax break. On the other hand, your child may be able to enjoy distinct advantages associated with student loans.
To get you started in making these decisions, ask yourself and your student these questions.
Can your child get student loans with attractive features?
Many student loans come with attractive provisions, such as income-based repayment plans and deferment for reasons such as unemployment or military service.
If your child has difficulty landing a high-paying job immediately after graduation or experiences other problems, these provisions can prevent default. However, if she can only qualify for private loans without these special benefits (possibly because of your high income or assets), then you may want to consider an equity-based loan.
Is your child planning a career in public service?
Certain public service positions allow graduates to receive loan forgiveness in exchange for completing a stint in specific disciplines, often in underserved areas.
For example, your child may be able to apply for Public Service Loan Forgiveness after making 120 qualifying payments on her student loan. The eligibility requirements include holding a full-time position in public service with a governmental or non-profit organization.
If she qualifies, then your family may be better off with student loans that could possibly be forgiven later. However, if your child has no plans to enter public service, you may want to use a home equity loan or HELOC to borrow less expensively.
Can you get a better interest rate with an equity-based loan?
Compare interest rates of student loans with other types of loans available to your family. Peruse federal student-loan interest rates and contact your banker to determine home equity borrowing rates for your situation.
Note that student loans generally carry fixed rates whereas those on home equity loans may be fixed or variable and HELOCs are typically variable. Consider whether the interest rate on an equity-based loan might rise, affecting your overall cost of borrowing.
Will your child be able to deduct interest payments on student loans?
After graduation, if your child’s modified adjusted gross income (MAGI) is $75,000 or less ($155,000, married filing jointly), she can deduct qualifying student loan interest payments of up to $2,500 on her income tax return.
Your interest on a mortgage loan is beneficial for tax purposes only when you itemize deductions.
Look at the impact of various loan types on your family’s personal income tax situation. Calculate cash flow associated with making interest payments and receiving tax benefits for both home equity loans and student loans to determine the best choice.
Whose loan is it anyway?
You may want to help your child avoid student loans and years of loan payments. But consider whether you should put your home and financial stability at risk to help your child pay for undergraduate and possibly graduate degrees, which should put her in the position to earn money for loan repayment. Whatever you decide, talk to your child about ways to limit borrowing to a manageable level.
Make an informed decision by running the numbers as well as comparing the potential risks and benefits of home equity loans, student loans, and other options for funding college bills.
