If your child is currently a sophomore in high school, making a few last-minute tax moves this year could be the key to maximizing college financial aid down the line.
Changes to the Free Application for Federal Student Aid (FAFSA) that kicked in this year allow families to use data from the prior year's return when they file. So a student starting college in the 2018-19 academic year can file the FAFSA as early as October 2017, using income data from 2016.
(Asset values are reported at the time you file the FAFSA, so you have until next fall to make changes there.)
Reducing taxable income for this year could benefit you under FAFSA rules, which gives more weight to income than assets in determining a family's expected contribution toward the cost of college. Between 22 and 47 percent of parents' discretionary income, and 50 percent of the student's income, could be allocated to cover college bills, according to the formula.
"You'd want to be cautious about artificially inflating your income," said Mark Kantrowitz, vice president of strategy for college and scholarship search site Cappex.com.
A few caveats about FAFSA preplanning: Some colleges ask applicants to file the College Scholarship Service Profile (CSS), which uses a different formula, in addition to the FAFSA. There are also other considerations — including parental marital status, age and the number of kids in college — that can affect what a family is expected to pay.
Some families won't be able to benefit much, so estimate your aid with the government's calculator before making drastic changes.
"For the true high net worth client, regardless of how they try to manipulate their financial structure, it's going to be fairly difficult to qualify for need-based aid," Kevin Meehan, regional president of Wealth Enhancement Group in Itasca, Illinois, told CNBC.com earlier this year.
(Even if you think you won't qualify for aid, you should still file the FAFSA. Among other reasons, without it, you aren't eligible for any federal student loans and some kinds of state- or college-based scholarships.)
Make sure you're getting that bottom line on your tax return as low as possible.Erin DurkinEP Wealth Advisors
Some of the last-minute tax moves families might employ include weeding losers from their portfolio, said Erin Durkin, a certified financial planner and director of financial planning at EP Wealth Advisors in Torrance, California. The IRS allows taxpayers to use losses to offset capital gains, and then deduct up to another $3,000 in a given year.
Then think about maximizing deductions. Depending on other elements of your tax situation, that might entail making an extra charitable donation, or prepaying deductible expenses such as property taxes, she said.
"Make sure you're getting that bottom line on your tax return as low as possible," Durkin said.
If your 2016 income is unusual, get ready to prepare an aid appeal, Kantrowitz said. That might be warranted if your 2016 income is high due to a one-off event (you got an outsized bonus or had gains from selling a home), your income fluctuates year to year (you freelance or own a small business), or something happens in 2017 to worsen your financial situation (loss of a job, death of a family breadwinner).
"What you would do is write a letter to the college detailing the unusual circumstances," he said. "[Tell them] it's a one-time event, that's not reflective of the family's ability to pay."
You'll be appealing to individual colleges, and the process may vary. To plan ahead, draft that explanatory letter and save copies of any third-party documentation — unemployment statements, tax returns, etc. — that supports it, Kantrowitz said.
"It's a holistic review," he said. "If you just lost your job but you also won the Mega Millions jackpot, then the college will take both factors into account."
