Education funding in difficult times.

Three or four years ago, many Parents assumed that they would be in a position to fund the costs of their children's col-education through their portfolio of rising Tech stocks. Needless to say, their assumptions have crashed along with their portfolios.

How to effectively deal with the educational expenses (whether public or private) of elementary, secondary, college or graduate education should be a critical strategy component of a family's financial plan. This strategy involves coordinating investment considerations, tax savings, financial aid considerations and financial planning to best ease this burden.

The initial decision of whether to invest in the parent's or child's name is often determined after an analysis of whether or not financial aid can reasonably be expected given the family's financial situation. If need-based financial aid is a real possibility, generally the investment should be in the parent's name since the financial aid benefits could exceed the potential lax benefits of investing in the child's account. For purposes of need-based financial aid, assets of a child are assessed at a higher rate in determining a family's Expected Family Contribution than assets held in the parent's name, which can reduce financial aid that would be otherwise available.

If the family will not be eligible for financial aid, assets are typically funded into a child's name or a bust. The easiest mechanism is a UTMA (Uniform Transfer to Minors Act) custodial account The most common strategy is to utilize the annual gift tax exemption that allows the transfer of $11,000 ($22,000 per couple) to each child free of gift tax. Annual transfers in excess of this amount will utilize a portion of the $1,000,000 lifetime gift exemption. Educational funding plans are often started with a large gift transfer, which can be in the form of appreciated stock.

An effective plan should incorporate investment strategy with reference to the time horizon and the age of the children. Age 14 is a significant factor in the taxation of the earnings, since once a child reaches age 14 investment income is taxed at a rate not greater than a 15% federal rate until a taxable income of $27,950 is reached. The President's Stimulus Proposal would increase the potential benefit by increasing the 10% bracket. If appreciated stock is given to a child and the stock was held for at least 5 years before the transfer (which may be the only stocks that still have sizable gains) the stock may be sold after the transfer to the child's account and may qualify for an 8% federal capital Rain rate. Prior to age 14, investment income that exceeds $1,500 is taxable at the parent's rate.

Investment strategies to keep lay, able investment income below $1,500, where appropriate, include tax-exempt municipal bonds or bond funds, growth oriented mutual funds, non-dividend paying growth stocks or Series EE U. S. Savings Bonds, which defer taxability until redemption. The President's Stimulus Proposal would add dividend -paying stocks to this strategy since the dividends would be tax exempt if this proposal is enacted.

Other Funding Plan Strategies Include:

* Education Savings Bonds- purchased in the parent's name and subsequently redeemed for qualified college tuition and fees--the accumulated interest becomes exempt from tax (subject to Adjusted Gross Income (AGI) limitations)

* Coverdell Education Savings Account (ESA)-formerly known as Education IRAs, non-deductible annual contributions of $2,000 can be made to these accounts generally until a child reaches age 18. Education expenses that can be paid tax free from an ESA include qualified elementary and secondary school expenses such as tutoring, private school tuition, computer costs and Internet access used for educational purposes (Contributions subject to AGI limitations)

* Hope Tax credit- a credit of up to $1,500 for qualified tuition and related expenses paid for each eligible student for the first two years of vocational school or college (subject to AGI limitations)

* Lifetime Learning Credit-a credit of up to $1,000 for qualified tuition and related expenses for each family (including non-degree programs) for an unlimited number of years (subject to AGI limitations)

* Tuition & Fees Deduction-a deduction of up to $3,000 for qualified tuition and related expenses (can be deducted whether or not you itemize your deductions) of a student for which an educational tax credit is not taken (subject to AGI limitations)

* Student Loan Interest Deduction-interest on student loans for higher education may be deducted up to $2,500 can be deducted even if you do not itemize your deductions (subject to AGI limitations)

* Qualified Tuition Program-(also known as Section 529 Plan) is a program allowing you to either contribute to a "qualified prepaid tuition plan" established for a specific school or to contribute to a "qualified tuition savings account" established to pay a student's qualified higher education expenses at any eligible educational institution. The more common alternative is the qualified tuition savings account since it is often not possible to predict where a student would want to attend college and would be accepted for admission. These plans are flexible and are not subject to AGI limitations like most other education tax incentives. The accounts can be funded with as much as $55,000 ($110,000 for a couple) without gift taxes by making an election to utilize the next S years of the $11,000 annual exclusion. This can also provide estate planning benefits for those who set up the accounts (often grandparents). The earnings of the account are income tax free if used for qualified educational expenses,

* Direct Tuition Payments-If your student is already in college you should consider that direct payments of tuition to the educational institution (often by grandparents) are gift tax free, which is in addition to any annual exclusion gifts of $11,000.

The sooner you begin planning the greater your chance to achieve your goals but it is never too late to start planning.

Stephen Kunkel is Director of Taxes for CBIZ Southern California Inc. For more information www.cbiz.com.