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The Path to College

Better tax breaks and loan terms mean strapped families can still pay their way.

The recession and the market crash haven't just decimated retirement savings. They've also toppled many families' college savings plans. And much like your investment accounts and home equity, college endowments have shrunk in the past year, pinching the ability of some schools to offer grants and scholarships. Meanwhile, private student loans are harder to get—the dollar amount of loans issued last year dropped about 30 percent as banks raised lending standards—and tuition costs continue to rise faster than inflation. "The landscape has gotten a lot more complicated," says Mark Kantrowitz of, a student-aid Web site.

The federal government has responded by broadening loan programs for students—offering more loans, more money, and better rates—and increasing tax breaks for parents: an expanded tuition credit for households with up to $160,000 in adjusted gross income could trim as much as $2,500 from your tax bill. Still, the economic downturn means many families need to rethink how much they'll need to borrow. Here's a quick guide to current obstacles—and how to get around them.

The Obstacle: "I just lost my job. My daughter starts college this fall, and now I can't afford it."

What to do: If you haven't already done so, fill out the Free Application for Federal Student Aid (FAFSA), the form that colleges usually require before awarding aid, from merit scholarships to need-based grants and loans. Submit it to your daughter's school with a letter explaining your situation. (Updating the financial-aid office is a good idea whenever your income or net worth drops—after a divorce, for example.)

You can change the investments in your 529 accounts twice this year, a rule that the IRS may extend.

If your daughter already has an aid package and needs to increase it, check the college's Web site or call to see if there's a formal appeals process. If there isn't, write a letter to the director of financial aid. Make your case clearly, and be honest about the difficulties you're facing and how much your child wants to attend. "Remember, a human being is reading this on the other end," says Kevin Simme, head of College Funding Alternatives in Princeton Junction, New Jersey. Follow up with a phone call or even a brief visit.

The Obstacle: "My home's value has sunk, so I can't borrow on the equity for my son's tuition, as I'd planned."

What to do: No equity? Don't panic. Before taking a loan in your name, look into federal student loans your son can get. Federal dollars have increased, and they might again. For example, the Federal Perkins Loan Program would balloon to $6 billion a year, from $1 billion, under President Obama's proposed budget.

As noted above, getting a loan begins with submitting a FAFSA. Federal student loans come in a few flavors. Low-interest Perkins loans of up to $4,000 a year go to students with the greatest financial need. Then there are Stafford loans, the most common student loans, which almost always have better terms than do private bank loans.

Stafford loans may be subsidized or unsubsidized. With a subsidized Stafford, the government pays the interest while the student is in school. These need-based loans have a broad reach: 12 percent of students from families with adjusted gross incomes over $100,000 got subsidized Staffords last year. The loans' interest rate will decline from 5.6 percent to 3.4 percent by the 2011-12 academic year.

Unsubsidized Stafford loans, which any student can receive, are getting more generous, too. You can add $2,000 to the former limits of $3,500 for freshman year, $4,500 for sophomore year, and $5,500 thereafter. Loan terms will remain at 6.8 percent; your college can provide a list of lenders.

The Obstacle: "Even with aid we're still a few thousand bucks short, and our credit rating isn't stellar."

What to do: If Staffords don't cover the bill, next consider the government's PLUS Loan Program. PLUS loans allow you to borrow for the full cost of a dependent child's college education minus any financial aid. For the 2009-10 school year the interest rate is 7.9 percent for loans that come directly from the government, and 8.5 percent for those in which a financial institution is the intermediary. The fees run from 3 percent to 4 percent of the loan.

Leave private loans for last. Before the credit crunch, you could cosign a private student loan with a credit score as low as 620. Now, says Kantrowitz, banks require scores of 680 to 700—or even 730. (Get your score at or for about $16.)

The Obstacle: "My kids are a couple of years from college, and our 529 savings took a huge hit. Should I bet on stocks to get us back on track?"

What to do: The temptation is understandable, but please don't load up on stocks in hopes that a market rally will restore your accounts. There's no need to abandon stocks, says Kalman Chany, author of Paying for College Without Going Broke (Princeton Review, 2008), but overreliance on them would pose a hazard. "You simply can't afford to lose money when tuition bills are due so soon," he says.

Makes sense. And yet some parents of teenagers got a rude awakening last fall, when they discovered that the age-based portfolios in their 529 plans were invested more heavily in stocks than they'd realized. Though most age-based plans invest more conservatively as the child gets older, some keep as much as 60 percent of deposits in stocks even when the student is a year or so from college, says Joseph Hurley, founder of

Parents and grandparents looking for safer alternatives should consider more-conservative cash and fixed-income options within their plan. The IRS has just made this easier to do. You can change the investments in your 529 twice this year, which is twice as often as before. It's a rule change the IRS may extend into future years.

If your current plan lacks enough safe investments, consider rolling over your assets into another state's plan that offers more choices. Insurance-backed "guaranteed" options, for example, are available in seven of the state plans managed by TIAA-CREF. (Returns for 2008 were as high as 4 percent.) But before you do, review your tax situation. You may lose a lucrative tax break if your state allows a 529 deduction. Worse, warns Hurley, if you got a break for contributing to your original account, some states will require a payment if you change plans.

Will any of this restore your investment losses? Only slowly. But time and caution should restore your confidence in investing and spur you to keep on saving.

Walecia Konrad is a freelance writer specializing in finance, and a frequent contributor to AARP The Magazine.