by John Darer CLU ChFC CSSC RSP CLTC
Can a child’s insurance settlement have an effect on how much financial aid they receive for college?
There is no question that it does and therefore it is important for parents, to understand how settlement proceeds from their child's settlement might affect different types of financial aid.
The first stop for financial aid is the FAFSA form. FAFSA is for the federal financial aid program as opposed to financial aid from the academic institution itself. Some institutions require the CSS profile to be completed for institution based aid. These forms are separate and distinct.
Dealing with FAFSA, eligibility for federal financial aid is based on the financial status of a student and his/her parent(s). The status determines so-called "expected family contributions" or EFCs. The FAFSA financial aid form seeks information about Income, Cash and Investments. Income is verified by the parent's and student's tax returns, Cash is verified by bank statements and Investments are verified by performance reports.
The United States Department of Education FAFSA Help Desk is a useful resource with regard to Federal Financial Aid programs. Be mindful of institutional based financial aid, where the university or college provides financing to students. More than 300 schools may also use the separate CSS Profile to evaluate the eligibility for financial aid. There are some important nuances between FAFSA and the CSS Profile that are important for parents, attorneys and settlement planners to know.
Generally speaking, the Income and Cash sections are weighted more heavily than the Investment section by the Department of Education since Income and Cash are considered immediately available to the applicant and therefore, immediately available to be used for college expenses. With the FAFSA, an investment is considered an asset that is not immediately available for use by the applicant and therefore NOT immediately available to use for school expenses. When qualifying for financial aid, the more money that is immediately available to the applicant, the higher the Expected Family Contribution (i.e. the less financial aid they are entitled to receive).
With the CSS Profile income producing investments must be shown at their fair market value. An example that I saw which might have similar cash flow to structured settlements, was a rental property in the child's name with a stream of rental income.
If we start with a given that it is more desirable to go to college than not, what are some of the things to look out during the settlement planning process,particularly when dealing with teenage plaintiffs that have college on the horizon?
A. One of my esteemed structured settlement industry colleagues states " As with cash proceeds from a personal injury claim, structured settlement proceeds are income tax-free. As such, there is no tax reporting from the annuity company to your child or the IRS. Because of this, payments from a structured settlement are not considered income. Therefore, when completing the financial aid application, neither a cash settlement nor a structured settlement should be reported as income since they are not treated as income by the IRS." This gets an incomplete, in my opinion. Here's why:
Many structured settlements are set up with 4 lump sum payments timed to the college years or college semesters. Sometimes lump sums are tied to the birthdays. Be aware that once the payments are made in lump sums on his/her birthday at age 18, 19, 20 and 21 and that birthday is early in the year, prior to the FAFSA form completion, the amount of that payment is available to be counted. One way or another the payments will be available for the EFC calculation at some point. The qualification process for financial aid is an ongoing process.
Bear in mind that a greater percentage of the assets of the student are expected to be used for the EFCs than assets of the parents. This is where the structured settlement secondary market gets it all wrong. Cash now pushers try to get young adults to sell their structured settlements at a discount "to help pay for college". The end result is that the student simultaenously gives up the factoring discount and then screws herself/himself on the financial aid front when 20% (FAFSA/Federal formula) 25% Institutional Method) or 5% (Consensus Method) of the structured settlement transfer proceeds go towards the EFC!
B. If, and only if the student is applying to a CSS Profile school and has an existing structured settlement, consider seeking a number of bids from settlement purchasers for the cash flow. Some cash now pushers market themselves as providers of liquidity for illiquid cash flows, therefore it would be a good measure of fair market value. THIS DOES NOT MEAN YOU SHOULD SELL YOUR STRUCTURED SETTLEMENT (see paragraph above!) In my opinion, for credibility, only seek bids from companies that have a real office address in the United States, not a UPS box. Make sure the bids are in writing and on the letterhead of the company. The structured settlement secondary market could liase with the primary structured settlement market in a constructive way here. The way I understand it from what I've read is that it is the fair market value, not the present value, that applies.
C. For non CSS Profile schools and smaller settlements, consider having smaller payments during the college years with a balloon payment after the anticipated graduation date to pay of the debt. Maximize aid and then pay it off while establishing good credit.
D. Some settlement planners are recomnending non qualified annuities, such as fixed indexed annuities as a structured settlement supplement or alternative in some cases. It is critical to note that non qualified annuities DO get counted on the CSS profile, but not on the FAFSA.
E. Given that some settlement planners and financial advisors might recommend the use of structured settlement payments rights as an investment, possibly owned by an LLC. Setting aside the highly misleading marketing labels (that include the word "annuity" to portray the rights) used by merchants of the derivative instrument, it is possible that these investments will be treated in a similar way to rental income and need to be included on the CSS profile.