The financial aid process can be overwhelming and as we walk families through this process it is important to understand the Expected Family Contribution or EFC. The EFC is generated after completing the FAFSA and it determines your need-based aid. I wanted to explain how the EFC is calculated so that you have a better understanding of the financial aid positioning.
Saving for college and then paying for college is becoming a significant concern for many families. Before you can begin your financial aid positioning for college, it is crucial for a family to understand how their EFC is calculated.
Most people believe the EFC to be one number, but it is the sum of four significant calculations. Our EFC chart breaks down the Expected Family Contribution so that parents and students can understand what details are involved in this calculation and their positioning. The actual calculation is four separate numbers that are summed together: parents’ income, parents’ assets, student’s income, and student’s assets. Each of these components has separate rules and allowances. People often call the EFC calculation by the name Federal EFC, FAFSA EFC or EFC FAFSA.
A family will get their Federal EFC by completing the Free Application for Federal Student Aid or FAFSA. This process only provides you with one number and does not break out the four separate numbers. You need to understand the four quadrants of the EFC calculation to create a proper college-funding strategy. The EFC Chart below shows the four separate numbers used to calculate the EFC number. Some colleges require additional financial information beyond the FAFSA, so please review your college list and their financial aid form requirements.
EFC Parent Income
The first component of the EFC is the parents’ income, which for most applicants will be the largest number of the EFC. It is based on the family’s structure, the number of dependents, adjusted gross income, and state of residence. These terms are very similar to your federal tax terms, as the two systems are now linked together.
The parent income section of the calculation is progressive. As the family’s Adjusted Gross Income increases, a higher percentage multiplier will apply to the income contribution number. This will result in the EFC increasing more quickly.
The one exception to the adjusted gross income is in the years you are applying for financial aid the amount a person puts in deferred income accounts such as IRA, 4011k and 403b accounts get included as an income number in the financial aid income section of the calculation. For income taxes purposes, it still has the same tax deferral advantage.
EFC Parent Assets
For the parents’ asset calculation, non-retirement assets are all included. Small farms, small family businesses, and your home equity are also excluded as a counted asset. There is an allowance amount based on the tax-filing status and the age of the oldest FAFSA-filing parent. The asset amount that exceeds the allowance amount will be multiplied by 5.64 percent to arrive at the parent asset calculated amount.
EFC Student Income
For dependent student income, the rules are straightforward. Since dependent students are included on another person’s tax return, their income allowances are limited by the state they reside in and the federal income exemption amount. Amounts over the allowances are weighted at 50 percent.
EFC Student Assets
For the student asset section, there are no allowances, and assets are weighted at 20 percent. Therefore, many people think it is a good idea to get assets out of the student’s name. People compare the student’s percentage of 20 percent to the parents’ percentage of 5.64 percent and disregard the cost of attendance as part of their decision. This asset moving strategy is a common error.
You need to be careful when liquidating student assets. The first issue is the tax consequence of liquidating assets. For dependent college students up to the age of twenty-four, if there is a taxable gain from the sale of assets, the “Kiddie Tax” rules will apply. For the student, the first $2,100 of unearned income will be tax-free, and any amount over that will be taxed using the trust income rate. Do your research as this limit changes periodically based on the tax code. Depending on the amount of gain, a very high tax rate could be charged due to the parents’ income level.
The next issue is ownership of the account or asset. If the primary social security number on the account is the student’s, then the asset or account is legally their money. Legally, this money must be spent on the student’s behalf. A parent would need to have documentation to properly liquidate a Uniform Gift to Minor Account (UGMA account), which is the type of account issued for most children under the age of eighteen.
Second EFC Method or Institutional Method
In addition to the FAFSA EFC, some schools have a secondary method called the institutional methodology. The most common is the CSS profile. Approximately 250 colleges currently use a secondary process. Most of them are the more competitive schools. Unlike the FAFSA EFC, this EFC number will be different at every school. Within this method, each college can modify the calculation to their specific goal. This number is often not explained or displayed to you. This EFC calculation will include other items not included in the Federal EFC or FAFSA. In most cases, this number is higher due to the inclusion of other items. The college will typically use the higher of the two numbers when designing a student financial aid award.
Understanding the parts of your EFC is essential in creating the proper paying for college strategies. With this knowledge and the financial award letter, students can better project their college affordability and the financial outcome of getting a college degree. We often understate the importance of affordability and focus only on admissions. Many of these early college financial decisions will affect both the student and the parent’s financial life for years to come. Focusing on the outcome needs to be part of the decision.
PayForED does have a free EFC Calculator on our website where families can get an estimated family contribution or EFC. The PayForED free EFC calculator provides a summary estimate with minimal input and is handy to use as a guide when completing the FAFSA.
A more detailed analysis is available, using the PayForED College Cost Analyzer software. The EFC PLUS software provides a detailed estimated family contribution and estimated financial aid award by the college.