The college preparation journey can be a large undertaking for both parents and students. After all, there’s a lot to juggle all at once— transcripts, essays, and more applications than you can count. But perhaps the most difficult and intimidating part to navigate is financial aid.
Many parents and students pay for college with a combination of current income, savings, and financial aid. By learning the basics of financial aid, you'll be able to understand how the aid process works and compare the aid awards your child receives.
What is financial aid?
Financial aid is money distributed primarily by the federal government and colleges in the form of student loans, grants, scholarships, and work-study jobs.
Do you have to pay back financial aid?
Whether or not you’re required to repay your financial aid depends on the type of aid that you receive. There four main types:
- Loans are a form of financial aid that must be repaid. Payments typically start once a student graduates or drops below full-time enrollment.
- Work-study financial aid must be repaid through work obligations. In other words, a portion of your tuition and expenses will be paid in exchange for working a specified job, typically on-campus.
- Grants and scholarships do not have to be repaid, but students may be required to meet certain requirements such as maintaining a certain grade point average or enrollment level.
Financial aid can be further broken down into two types: need-based, which is based on your child's financial need, and merit-based, which is based on your child's academic, athletic, or artistic merit. Students can receive a combination of need-based and merit-based aid, as well as funds from both the government and college.
How does financial aid work?
Financial need is generally determined by looking at a family's income, assets, and household information.
How Financial Need Is Determined for Federal Aid
The government's aid application, known as the Free Application for Federal Student Aid or simply FAFSA, uses a formula known as the federal methodology to determine a student’s financial need. Keep in mind that FAFSA is not a loan— it is the application used to determine your eligibility for receiving any type of federal aid.
We won’t get into detail with the formula, but it involves the following:
- Parent and student income
- Parent and student assets
- Family size
- Number of children in college in the household
- Parent age
After you fill out your FAFSA, you will receive a figure known as your expected family contribution, or EFC. Your EFC is a measure of your family’s financial strength. It is a common misconception that your EFC is a measure of what your family is able to pay out of pocket for college. However: the EFC doesn’t take into account your family’s overall debt burden, budget, or other financial factors. What your family will ultimately contribute can be much higher or lower than this amount.
Here are some important clarifications:
- Your EFC remains constant, no matter which college your child applies to.
- Your EFC is not the same as your child's financial need, but it does affect financial need.
- Your child’s financial need affects how much of a certain kind of financial aid can be applied, and this can vary from school to school.
- Because tuition, fees, and room-and-board expenses are different at each college, your child's financial need will vary depending on the cost of a particular college.
To help clarify confusion around the EFC, the government will adopt a new name on July 1, 2023. This new number will be known as the Student Aid Index or SAI. The SAI will function much the same way as the EFC, with a few changes.
How College Aid Is Determined
Colleges use their own formula for determining financial need. Some may use a universal application developed by the College Board called the CSS Profile.
Basically, the process works the same way except that the institutional methodology in the standard college CSS Profile application typically takes a more in-depth look at your income and assets. For example, some colleges may consider your home equity in assessing your ability to pay college costs.
Keep in mind that just because you have financial need doesn't necessarily mean that colleges will meet 100% of that need. In fact, it's not uncommon for colleges to meet only a portion of it.
How do I apply for financial aid?
The best way to file the FAFSA is online at fafsa.ed.gov. To do so, you and your child will each need to obtain an FSA ID, which you can also do online.
The FAFSA relies on income tax information from two years prior (for example, the 2022/2023 FAFSA relies on your 2020 tax return) and current asset information. The FAFSA has the ability to directly import your tax information using the IRS Retrieval Tool, which is built into the form, though you will also need to answer additional questions.
When should you apply for financial aid?
The FAFSA can be filed as early as October 1st in the year prior to the year your child will be attending school.
Private colleges typically require both the FAFSA and the standard CSS Profile form or their own aid form, which you'll need to submit by each individual college deadline. The Profile form is generally submitted in late fall or winter, but is often required earlier if your child is applying early decision or early action.
The FAFSA can be filed as early as October 1st of the year prior to the year your child will be attending school.”
After your FAFSA is processed, you will receive a Student Aid Report that highlights your EFC. Colleges that you list on the FAFSA will also get a copy of the report. Then the financial aid administrator at each school that accepts your child will try to craft an aid package to meet your child's financial need. Colleges aren't obligated to meet all of it.
Comparing Aid Awards
Sometime in late winter or early spring, your child will receive financial aid award letters that detail the specific amount and type of financial aid that each college is offering.
To compare offers:
- First determine your out-of-pocket cost, or net price, for each school by subtracting any grant or scholarship aid (which doesn't need to be repaid) from the total cost of attendance.
- Next, look at the loan component of each award to see how much, if any, you or your child will need to borrow.
- Then compare the net price and loan amounts across all colleges.
If you'd like to ask a particular school for more aid, a polite letter to the financial aid administrator followed up by a telephone call is appropriate. Your chances for getting more aid are best if you can document a change in circumstances that affects your ability to pay, such as a recent job loss, unusually high medical bills, or some other unforeseen event.
Common Federal Aid Programs
Here are some names you'll be hearing as you navigate the world of financial aid:
Direct Stafford Loan
The most common student loan for college and graduate students. For undergraduate students, the interest rate is currently fixed at 3.734% for loans disbursed July 1, 2021 through June 30, 2022, and 5.284% for graduate students.
Direct PLUS Loan
An education loan for parents of college students and independent graduate students. A separate application is required, though filing the FAFSA first is a prerequisite. Parents can borrow the full cost of their child's education, minus any financial aid received; the only criteria is a good credit history. The interest rate is currently fixed at 6.284% for loans disbursed July 1, 2021 through June 30, 2022.
A Pell Grant does not need to be repaid and is available only to undergraduates with exceptional financial need.
Applying for Merit-Based Aid
Colleges often use favorable merit aid packages to attract certain students to their campuses, regardless of their financial need.
The availability of college-sponsored merit aid tends to fluctuate from year to year and from college to college as schools decide how much of their endowments to spend, as well as the specific academic and extracurricular programs they want to target.
Exploring college merit aid is probably the single biggest thing you can do to optimize your bottom line.”
As a family or student researching college options, exploring college merit aid is probably the single biggest thing you can do to optimize your bottom line.
If you want to get an estimate ahead of time of how much financial aid (need-based or merit) your child might qualify for at a particular college, visit the college's website and fill out its net price calculator, which all colleges are required to have on their websites. Net price calculators ask for parent and student income and asset information, and they take anywhere from 5 to 15 minutes to complete.
Besides colleges, a wide variety of groups offer merit scholarships to students meeting certain criteria. There are websites where your child can input their background, abilities, and interests and receive (free of charge) a matching list of potential scholarships.
How much should you rely on financial aid?
With all this talk of financial aid, it's easy to assume that it will do most of the heavy lifting when it comes time to pay the college bills. But the reality is you shouldn't rely too heavily on financial aid.
Although aid can certainly help cover your child's college costs, student loans often make up the largest percentage of the typical aid package, not grants and scholarships. Remember, parents and students who rely mainly on loans to finance college can end up with a considerable debt burden that can have negative implications for years after graduation.
The Bottom Line
Though it can be confusing to navigate, understanding financial aid is a must for students and parents of incoming college students. Always be sure to fill out the FAFSA and CSS Profile to determine your eligibility for need-based aid and explore your merit-based aid options. If you’ve set up a 529 college savings plan in the past, it’s time to consult a financial advisor to review the current balance and withdrawal options. You may not get 100% of your financial need covered, but any amount can go a long way towards reducing your out-of-pocket and student loan burden.