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Every year I get several requests from financial advisors for strategies to help their business owner clients get financial aid to help pay for college. My standard response is business owners are afforded more tax breaks than employees of corporations, and the financial aid system is no different.

Under the Federal Deficit Reduction Act of 2005, the owner(s) of family-controlled businesses with 100, or fewer, employees can exclude their entire business assets when filing the Free Application for Federal Student Aid (FAFSA) next year. Since many business owners have most of their assets tied up in their business, this 2005 regulation may qualify business owners for considerable financial aid, where before they would have been left out.

For instance, before 2005 a business owner with $100,000 in income and $1 million dollars in business assets would never have qualified for need-based aid, regardless of the college the student attended. However, under the Federal Deficit Reduction Act of 2005, not only could the family qualify for need-based aid at most private colleges, but also a potential $2,500 in American Opportunity Tax Credits.

Furthermore, there are numerous income-reduction tax strategies for the business owner that could further increase both the family’s cash flow for college and the financial aid of the student; such as, hiring the student, medical-reimbursement plans, equipment lease-back options, and more. And if the business owner happens to be a grandparent who wants to help pay for their grandchild’s education, an employer education assistance plan could provide as much as $10,500 in cash for college expenses.

Business Owners Can Increase Their Cash Flow For College By Hiring Their Kids

Few college savers think about taxes when they start socking away dollars for the cap-and-gown days. Even though tax season is over for most business corporations, if you have a small business owner client, integrating college financing with taxes should be a year-round activity.

Smart business owners can follow a tax-advantaged strategy by employing their children directly and setting aside college funds from their earnings. Business owners in high tax brackets can pay for a good deal of their children’s education with money that's taxed no higher than 15 percent (marginal rate).

The core of this strategy is to invest a child's earnings at an early age while they are working for you. This strategy is ideal for the self-employed, sole proprietors and professionals, and it can work for any person who sets up a new business.

Here's and example of how the ‘employing the child” strategy would work.

Example: Say you have a 10-year-old who can do some light office work, which could include anything from computer maintenance to filing. You pay your child for "jobs related to their age or abilities". In the year 2013, the first $6,100 the child earns is tax free to them (the standard deduction for single tax filers). This money can be used to pay the college tuition bill.

Suppose you have a 15 year-old child that’s only three years away from college. A business owner in the 35% tax bracket could save considerable money by hiring the child and pay him $10,000 for computer work. The business owner’s tax liability on that $10,000 would be $3,500. However, the child would only have a $390 tax liability ($10,000 - $6,100 x 10%) which is a $3,110 tax savings. The savings over a three-year period would equal $9,330. Rather than paying the college direct with after tax dollars, it’s obviously much better for the small business owner to hire the child and use the earnings to fund the college account.

If you have a small business owner client, there are many available tax opportunities to help them save and pay for college and we will be discussing those in subsequent Blog articles. 

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