College Planning

STEP FIVE

Evaluating Assets and Liabilities

It is now time to open the information you have accumulated in your files. We asked you to write down your assets. Look over the list of assets and find assets that can be used to help pay for college. Some of these assets can be liquidated or borrowed (leveraged) against.

Examples:

Fixed Income Investments
CD’s
Bond Accounts
Stock Mutual Funds
Rental Real Estate
Undeveloped Land
Cash Value Life Insurance
Personal Residence
Second/Vacation Home

Try to find assets that are not productive (income wise) or instead of having income producing assets reinvest its earnings, take the income in cash to help pay for college. If you will not qualify for financial aid (no scholarships or grants) and you want to liquidate an asset that has a capital gain think about gifting the asset to the student and let them sell the asset and pay lower capital gains taxes (check with your CPA on the Kiddy Tax Rules).

If you sell an asset that has a capital gain you may pay a capital gains tax of 15%. If you gift the asset to the student and they sell the asset they may only pay 5%. Make sure to consult with their professional tax planner before selling or gifting any assets (Ask About The Kiddy Tax Rules).

If you decide to borrow against these assets you can use the borrowed money to pay for educational costs and could deduct the interest on the borrowed funds as a student loan interest deduction on your taxes.

You can deduct up to $2,500 a year as long as their income is with in a certain limit (check with their tax professional).

The following pages will give you an idea on how to use the equity in your home to pay for college and benefit in THREE ways.

Ideas On How To Use Equity In A Home

A personal residence loan is one of the few investment vehicles whose interest charges are tax deductible. Families in middle and high income tax brackets can take maximum advantage of this tax write-off.

Parents, whose income is too high to take advantage of the student loan interest deduction, could use the interest on a mortgage loan to provide an itemized tax deduction. There are a wide variety of personal residence loans that can be used to fund college expenses. The family can use any combination of mortgage loans with fixed or adjustable rates to meet their intentions, including those with minimum monthly payments while the student is in college.

Many families find themselves with a shortfall of funds to pay the entire cost of college and end up with a cash flow problem.

To increase cash flow the family can either do one of two things:

· Increase their assets, or

· Decrease their liabilities (debt).

Here Is A Planning Tip:

Families can use the same method used by many corporations to decrease liabilities and increase cash flow called DEBT RESTRUCTURE or DEBT CONSOLIDATION.

Hundreds of Companies do this by refinancing their assets and consolidating all their debts into one smaller payment extended over a longer period of time.

This allows the company to make their assets more productive and establishes a new budget for expenditures.

Families can significantly increase their cash flow by applying the same debt consolidation methodology to their liabilities, such as home mortgage, car loans and credit card debt.

By consolidating your debt payments into one lower payment, you can increase cash flow to pay college expenses, fund your retirement and even pay your home mortgage off earlier than anticipated once the student is out of college.

The theory behind debt consolidation is simple.

Home equity is one of the family’s main assets, yet home equity is a very unproductive asset. Home Equity DOES NOT earn interest. You can increase home equity by one of two ways,

· Increasing the value of your home by making improvements

Decreasing the debt owed on it

If you leave equity in your home, the home equity asset remains dormant (earning no interest) and unproductive until you sell your home.

The only way to make home equity productive, during the time you own the home, is to borrow the excess equity and wisely use the increased cash flow for productive purposes such as using the equity for investment purpose, pay off BAD high interest installment and car loans or credit cards.

By refinancing the family’s personal residence, the old mortgage and all other high interest/high cost debt can be paid off with a new, lower cost mortgage or using the equity to invest into tools that are designed to accumulate wealth.

The result is a lower monthly payment that creates extra cash flow that can be used to pay college expenses or retirement.

There may also be additional tax deductions available with the new mortgage that can further increase your cash flow availability.

Let’s Look At An Example:

The Smith family would like to send their children (Johnny – a senior and Sally – a sophomore) to college. Mr. and Mrs. Smith earn a total of $75,000 per year in income, but have saved absolutely no money to cover Johnny and Sally’s educational expenses. Mr. Smith is 47 years old.

Johnny and Sally plan to contribute to their own education by taking out student loans, but the Smith’s will still need around $80,000 to fund the balance of both educations.

The Smith’s have few assets and considerable debt and estimate that they can only contribute $400 per month ($4,800 per year) from their current income towards educational expenses, without dramatically changing their present lifestyle (they developed a Strategic Cash Flow Plan).

The Smith’s decide to refinance their current $120,000 in debt (mortgage and high cost consumer debt) into a new, $134,400, 30-year mortgage.

Prior to consolidating their mortgage they were making monthly payments of - $665 on their home - $420 on car loans – $220 on credit card debt - $150 on a personal loan they used to buy furniture.

All their debt totaled $120,000 at a monthly payment of $1,455.

They decided to refinance their home for $134,400 and pay off all their other debt with $14,400 left over that they would use to help pay for the students college education. Using the Debt Consolidation, the Smith’s will achieve a considerably lower monthly payment ($1,455 vs. $894) and increase their cash flow by $561 per month.

They will also receive a lump sum cash amount of $14,400 from the new mortgage. This additional cash flow, combined with the student loans and the Smith’s $400 per month contribution from current income, will allow the Smiths to do the following:

Fund Johnny and Sally’s educational expenses. The $14,400 reserve funds can be used when the Sally starts college in the third year because of the shortage of income from the cash flow. Once Johnny graduates from college, the reserve fund would be reduced to $8,206 and will no longer be needed to draw from.
Once Johnny and Sally are no longer in college the Smiths can take the $961 of monthly payments they were paying toward college expenses and start to pay toward their 30-year mortgage. By prepaying their mortgage they will have the house paid off in 13 years. By this time Mr. Smith is age 60 and the reserve account has grown to a value of $13,451 (based on a 7% return after taxes).

· After the mortgage is paid off, the Smith’s can take the $961 a month and apply it toward their retirement. By the time Mr. Smith reaches age 65 they would have accumulated $155,838 into their retirement, base on a 7% after tax return on the investment (this also includes the money reserve they started with at the beginning of the planning process).

You maybe asking, what if the Smiths need a new car while the kids are in school, want this throw their plan out of balance?

NO, not really, because the new car payments can be made by the increase in income that Mr. and Mrs. Smith would receive from their employment if they receive wage increase of 3 to 4 percent yearly.

By knowing how to borrow correctly the Smith’s will not have to change their current financial lifestyle or tap into their retirement fund in order to pay for their children’s college educations.

The Chart on the next page will illustrate how this idea is incorporated.

The Cash Flow Analysis Table below demonstrates the Smith’s Personal Residence loan strategy.