If you have received a financial aid letter from a college recently and it looks like your offer may come up short, is it time to get a home-equity loan?
While borrowing against your house is a source for college funding, whether to tap it should be a decision made as carefully as the college choice itself. You may complicate both your tax and retirement situations if you make the wrong

Due to the continued threat of the loathsome alternative minimum tax, it may be wise to avoid borrowing against your home and consider a conventional college loan instead.
Obtaining a loan against the accumulated value of your home has a lot of appeal, yet there are numerous drawbacks. It’s not as simple as treating your equity like an automated teller machine to withdraw cash for ever-higher college bills.
Often offered as lines of credit, these packages are frequently pegged to variable interest rates, which have been rising over the past year.
John Pearson, a certified public accountant and college planning specialist in Norwalk, Conn., says people borrowing against their homes often ignore the tax consequences.
One big disadvantage is that home-equity-loan interest isn’t tax-deductible if you are subject to the AMT and if proceeds from the loan are used for college payments “and for any other reason other than home acquisition or improvement,” Pearson says.
Even if you aren’t subject to the tax, there’s also a $100,000 limit on deductibility of interest if home improvement isn’t the reason for the loan.
Pearson suggests that if you’re obliged to pay the AMT, ask your tax planner to “reclassify the mortgage interest into student-loan interest” by making a special election on your return.
For those subject to the AMT, there’s still a way to deduct student-loan interest — provided it’s a conventional student loan and you meet certain guidelines:
● If your adjusted household income is less than $135,000 and you are married, filing jointly, then you may be able to write off all or part of the interest. For singles or heads of households, the income limit is $65,000.
● In either case, you can deduct no more than $2,500 per year. You don’t need to itemize on Schedule A to do this — if you qualify.
● Of course, if the loan is in the student’s name, the write-off becomes a much easier proposition as far as deductibility goes, although you may not want to saddle your child with the debt.
When might it make most sense not to tap home equity? If your local real estate market has leveled off or is declining, then you may refinance to an interest-only loan, “perhaps with a five- to seven-year rate lock,” Pearson says.
After refinancing to the lower monthly payment, you would gain more cash to put toward college bills.
Take a close look at your local property market. In many places, you may not be building equity in the short term, so an interest-only loan may make sense. Across the U.S., home prices fell 3.3 percent in the first quarter, according to the National Association of Realtors, an industry trade group based in Chicago.
“After the lock period is up, you could re-examine and restructure the loan,” Pearson says. With the right kind of loan features, you can convert back into a conventional, fixed-rate mortgage after five years or so.
“What will you really earn on your mortgage pay-down?” asks Pearson, referring to conventional fixed-rate loans that include principal payments.
With an interest-only loan, “you can possibly free up amounts from $7,000 to $10,000 annually to defray college costs.”
Home equity isn’t a piggy bank that you should crack open on impulse, though. Don’t consider using home equity for college if you have little in retirement savings.
Does the accumulated value of your home comprise the bulk of your net worth? Then don’t touch your equity. It would take you years to rebuild it and you could be devastated if the property market turns south.
If after talking with your tax or financial planner you decide that the home-equity route won’t work, it’s not difficult to obtain loans from private lenders.
Just make sure that you’re getting the best deal on loans by avoiding closing costs and obtaining a competitive rate. www.azstarnet.com

This entry was posted on Wednesday, May 31st, 2006 at 12:38 pm and is filed under Financial Aid. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.