With a Tax Deductions Gone, Parents look to Home Equity as a way to Pay for College
by Rachel Li on Aug 7, 2018
For parents facing the prospect of six-figure college bills, every bit of savings and every last tax break helps. As many Americans digested the details of the new tax law, it was natural to lament the end of deductions for interest people pay on home equity loans. After all, if you don’t have savings but have been paying down your mortgage, it’s awfully tempting to borrow against your house to pay for college. Many colleges seem to count on this. In fact, scores of the more expensive private ones ask about home equity during the financial aid process.
The change in the tax law begs two questions then; Will the colleges ask less of some families now that home equity is no longer available? Is borrowing against the value of your home a good idea in the first place? As always with college aid and family financial behavior, this is a difference between what the schools’ formulas say about a family’s ability to pay and what that family does in practice. The federal financial aid system, which governs things like Pell Grants and federal loans – and which families access by filling out the Free Application for Federal Student Aid – does not take home equity into account.
It isn’t easy to figure out how or if any individual college runs your home equity numbers, but if it doesn’t provide a clear explanation on its financial aid website, you can try using the customized net price calculator that all schools provide. Start by entering all your information honestly, including your home equity, then do it again while setting your home equity to zero to see how or if the results differ. You can find a detailed explanation of home equity financial aid formulas on the College Solution website, by Lynn O’Shaughnessy. Financial aid experts repeat the following as a mantra: An asset is an asset is an asset.
“If we have two families with the same income, and one has no home equity and the other has $100K in their home, it’s clear that the family with home equity is better off” said Sandy Baum, senior fellow at the Urban Institute and a former consultant for the College Board, which produces the CSS Profile. If you have $20K outstanding on a home equity line of credit and applying 4.5 percent interest on that annually, that’s $900.00., in annual interest that used to be tax deductible for many people. Now it won’t be, which could cost families thousands of dollars over many years of repayment.
Will schools change their financial aid formulas so they can ask a bit less of families with home equities? Justin Draeger, President of the National Association of Student financial Aid Administration, said he was not aware of any colleges preparing to do this. His organization has not issued an opinion on whether members should do so. Some borrowers could come out ahead overall because of other tax changes. Meanwhile, home equity lines of credit for people with good credit histories might cost 4.5 percent in annual interest right now. Even absent the tax deduction, that remains a good deal compared with one other alternative that colleges often recommend: Federal Plus loans, which come with a 7 percent interest rate.
It’s a tricky comparison. Home equity lines of credit have variable interest rates, and they are likely heading up in the next year or two. The Plus loans have fixed rates. “Home Equity can also be a gateway that threatens retirement goals”, said San Francisco financial planner Milo Benningfield. He recalls one couple who drew down an equity line for college, the husband was self-employed. They used the line for other things, even as their income fluctuated and they refinanced the mortgage. By the time they came to see him, they had to sell their home in order to retire.
SF Chronicle Monday, January 15, 2018 Business Section D2