There's no disputing that a college education is expensive, so naturally, many parents want to help their children pay for their education. But unfortunately, most parents don't have hundreds of thousands of dollars stashed away to pay for college.
One way parents can get access to the kind of money needed to pay for college is to take out a mortgage on their house. But is that really a good idea?
Most experts say no. For one thing, the interest rate on a student loan is about the same and sometimes even lower than the rate on a mortgage. And, taking out a mortgage on your primary residence puts your home at risk. If there is ever a time when you can't make the mortgage payments and end up defaulting on the loan, you could lose your home. So if you're going to borrow money to pay for college, you might as well select the option that will cost less and/or carry the least amount of risk.
Additionally, the mortgage interest deduction should not motivate you to take out a mortgage. You can only deduct the interest on your mortgage if you itemize your deductions, and you only benefit from itemizing your deductions if the total amount is greater than the standard deduction. Your actual tax benefit is just a fraction of the difference between your itemized deductions and the standard deduction - in other words, it's probably not nearly as much as you might think.
Yet another factor to consider is the likelihood that you will take out more money than you need from your home's equity and stash that excess in savings for the following year's expenses. However, those savings will be considered as an asset when your financial need is being assessed, while your home's equity is not considered as an asset on the Free Application for Federal Student Aid (FAFSA). Consequently, your financial aid package may be less favorable than it would have been had you not taken out the mortgage, although schools may take your home's equity into account when preparing their financial aid packages.
Instead of taking out a mortgage to pay for college, stash money in a 529 Plan or Coverdell Education Savings Account while your child is still in primary or secondary school. If your child is about to start college and you don't have any other means of helping them other than by tapping into your home's equity, consider applying for a Home Equity Line of Credit (HELOC) rather than a new mortgage. The interest rate on a HELOC will probably be a little higher than the interest rate on a mortgage, but you can take out money when you need it, instead of all at once at the beginning. Be sure to take a look at interest rates for student loans too, since you may find that it makes more sense to take out a student loan on behalf of your child instead of putting your home at risk.
