SCOTUS ruling on loan forgiveness underscores need to save

Bill Cass, CFP®, CPWA®

Bill Cass, CFP®, CPWA®, 07/26/23

With less federal student aid available, higher interest rates, and the recent high court decision to strike down student loan forgiveness, it is more important than ever for families to save for college.

Saving in a 529 savings plan can help families meet their college tuition goals and take advantage of tax benefits.

Federal aid on the decline

With shifting budget priorities over the past decade, total federal grant aid decreased by 32% in inflation-adjusted dollars between the 2010-2011 and 2020-2021 academic years. (College Board, Trends in College Pricing and Student Aid 2022).

Between those years, federal loans to undergraduates fell by 47%. Federal loans provide more favorable terms generally. With fewer funds available to borrow, it may prompt families to look at the private market for loans, which typically incur higher interest rates.

Borrowing as part of an overall strategy

Borrowing has consistently been a piece of the college funding strategy for many families. Most families rely on multiple sources to cover tuition payments, including college savings accounts, scholarships, funds from other savings or investment accounts, and loans. According to Sallie Mae’s 2022 “How America Pays for College,” in the 2021–2022 academic year, families spent an average of more than $25,000 per year on college expenses. Payments were drawn from a range of sources, including 54% from parent and student income and savings, 26% from scholarships and grants, 18% in borrowed funds, and 2% from relatives and friends.

While it’s common to take out student loans, meeting the payment schedule can be challenging for some graduates, especially when the bills come due after graduation and their employment situation may be unclear.

Currently, outstanding student debt tops $1.75 trillion.

President Biden proposed a student loan forgiveness program to help defer up to $10,000 in debt (up to $20,000 for Pell Grant recipients) for individuals earning less than $125,000 and married couples earning $250,000 or less. The idea faced significant opposition, resulting in a challenge in the courts.

The Supreme Court’s rejection of the loan forgiveness program means the three-year suspension of debt payments instituted during the pandemic will end August 30, 2023. At that time, interest on those loans will begin to accrue again.

Lower-income households report they expect to have a difficult time making payments. A June 2023 survey by Morgan Stanley found half of those earning less than $50,000 said they would not be able to make loan payments even if they cut other expenses. About one-third said they expect to make payments but would need to cut expenses. And just 21% said they believed they could make payments without budget cuts.

For many years, graduates have cited the burden of college debt as a financial obstacle. Many young workers have noted college debt is a barrier to saving for retirement or making a down payment on a home.

Biden suggests contingency plan for certain borrowers

The Biden administration announced on July 14 it would cancel $39 billion of debt for 804,000 student loan borrowers with income-driven repayment (IDR) plans. Borrowers are eligible for forgiveness if they have accumulated the equivalent of either 20 or 25 years of qualifying months, the announcement stated.

According to the Department of Education, this debt relief action is an effort to fix specific inaccuracies in the tabulation of payments qualified for loan forgiveness under IDR plans.

Saving takes on heightened priority

Considering the landscape for loans, many families may turn toward saving and seek out tax-advantaged vehicles like 529 college plans to cover more of the costs of college.

529 plans offer tax advantages

Savers pay no federal income taxes on account earnings while the account is invested. And there are no federal income taxes when the money is withdrawn to pay for qualified education expenses.

The account owner retains control over withdrawals for the life of the account. In most cases, contributions to the account can be removed from your estate for tax purposes while retaining control over the assets.

Families can save more with high account limits

529 plans offer high maximum account limits to match the rising costs of education. For some, education savings is needed to help fund private tuition at the K–12 level, plus four years at a college or university. Though the limits differ by plan, Putnam 529 for AmericaSM, for example, offers a maximum contribution limit of $500,000 per beneficiary.

Qualified expenses include loan repayment

Withdrawals can be made for qualified education expenses, tax free. These qualified expenses include:

  • Tuition and fees
  • Room and board
  • Wi-Fi
  • Computers
  • Books
  • Certified apprenticeship programs
  • K–12 tuition. Up to $10,000 per year per student may be used to pay for tuition at any public, private, or religious elementary or secondary school in many states. However, not all states have recognized K-12 tuition as a qualified withdrawal. Consult an advisor about state rules to avoid penalties.
  • Student loan repayment. A lifetime amount of $10,000 may be used to pay back student loans

Consult with an advisor

529 college savings plans can also be invested to align with savings goals. It is important to meet with a financial advisor to see how a 529 plan may fit in with your overall college saving strategy.