At the $250,000 income level that is at the center of President Obama’s tax increase proposal, up to 55% ($139,133) of the $250,000 families earn goes to taxes and what they are expected to contribute toward the cost of college each year.
After paying $73,696 in federal, state (Pennsylvania), local and FICA taxes, parents with a household income of $250,000 are expected under the federal college aid formula to contribute an additional $65,437 per year toward the cost of college. For a college student to be eligible for need-based financial aid, the student must demonstrate a need for aid using the formula, the college’s Cost of Attendance – Expected Family Contribution = Financial Need. The student of a married couple earning $250,000 per year has an expected family contribution (EFC) of $65,437 per year based on the parent's income alone, forgetting any assets they may count in the aid calculation, raising the student’s EFC even higher.
Since the most expensive colleges today are now right at or slightly over $60,000 per year, the student's EFC of $65,437 will exceed the cost of attendance and, therefore, the student will not be eligible for any need-based college aid. However, the student will not be expected to pay more than the cost of attendance (sticker price), so the family’s out-of-pocket cost is $60,000 per year at the most expensive colleges in the country. If the student chooses to attend a college with a lower sticker price, then the lower sticker price becomes the family’s out-of-pocket cost - assuming the student doesn’t receive any merit aid or scholarships.
Using the highest college sticker price of $60,000, along with the tax owed on $250,000 of $73,696, the total comes to $133,696, 54% of the family’s gross income.
Compare that to the 32% ($23,868) that is expected to be contributed toward the cost of college and paid in taxes on an annual income of $75,000. This $75,000 family has an EFC of $9,142 per year, and is expected to pay $14,726 in total federal, state, FICA and local taxes.
$75,000 = $23,868 = 32%
$250,000 = $139,133 = 55%
These facts highlight the real burden on middle class families from $75,000 - $250,000 to pay for college each year for just one child. It seems, at 55% of gross income, that those families making $250,00 are already doing their fair share of paying higher taxes and the full sticker price of college, let alone potential new taxes. The way the syytem works, lower income families benefit from the higher tax and tuition revenue generated from the $250,000 families by getting a college education at a lower out-of-pocket cost. The tax dollars fill the state and federal coffers and in turn provide state and federal college aid subsidies to the lower income families, while the same $250,000 family pays full sticker price for college. So the $250,000 families indirectly subsidize lower income families twice, with taxes and full tuition revenue to the colleges. Colleges clamor for what are called “full-pay families” for this very reason.
I am not suggesting that families making $250,000 per year cannot afford college, particularly a lower priced college. However, I do think it is important to know who is already paying what in taxes, and how much they are expected to contribute toward the cost of college. Taxes and college affordability are important points in both presidential candidate's campaigns.
Our current president wants to raise taxes on parents with $250,000 of income and higher. The status of this major tax question hangs in the air until the presidential election is decided in November. But don't wait for November because one thing is certain today, the time has come for all middle class families to have an integrated college planning strategy based on: College selection, financial aid, tax aid and financial planning. What’s more, when tuition and tax bills come, the bills don’t care if you are registered Republican or Democrat, or where you stand relative to the fiscal cliff - they just need paid! How you pay those bills each year will definitely have a lasting impact on your retirement savings too.
So we all need to know ahead of time where our children may be able to get into college and get aid, and what our best strategy is to pay for the colleges that are the best fit for our children. It’s time to get started. Carpe diem.
Ps: In response to some of the comments made, I'll note that students of parents making $120,000 per year, when attending lower priced in-state universities, often do not qualify for any need-based aid either.
Follow me on Twitter @troyonink. I have a new book coming out soon.