Politicians may be close to a deal that will avoid the dreaded fiscal cliff, thereby averting a $450 billion tax increase that would affect most American households. However, if we find ourselves tumbling over the edge of that cliff on January 1, there is at least one possible silver lining for parents of college students.
Higher Taxes Can Increase Your Child’s College Aid Eligibility
Paying higher taxes can actually increase your child’s eligibility for need-based college financial aid. The reason is that in the formulas used to determine a student’s need for financial aid, federal, state and FICA taxes that parents and students pay get subtracted from their respective incomes. The more taxes you pay, the less income the formulas determine you’ll have available after taxes to contribute toward the cost of college. Depending on the cost of the colleges your child is considering, the child’s aid eligibility may go up because the child’s expected contribution will go down as the result of you paying more in taxes.
The Fiscal Cliff and Need-Based Aid Eligibility
Colleges determine your child’s eligibility for need-based aid by subtracting the amount you are expected to contribute toward the cost of attendance (cost of attendance – expected family contribution = need). The more taxes you pay, the lower your child’s expected family contribution (EFC). At colleges where the overall cost of attendance is higher than your child’s EFC, the child will qualify for need-based aid. If you end up paying more in taxes if we go over the so-called “Fiscal Cliff” when the Bush-era tax cuts expire this December 31st, then your child’s EFC will go down and aid eligibility at the colleges where your child qualifies for need-based aid will go up.
A simple rule of thumb is that your child’s EFC will drop by about 47% of every dollar you pay in additional taxes on the same amount of income.
Higher taxes may not be so bad if you’re seeking college financial aid, but they can be tough on long-run economic growth.