Understanding the two types of college financial aid

College financial aid is a mystery to many. This article explains the two different types of college financial aid and how to plan for them.

Carlo Allegri/Reuters/File
Students hold up signs and chant slogans as they attend a demonstration calling for lower tuition at Hunter College in the Manhattan borough of New York November 12, 2015. Financial aid can help supplement the cost of universities and college.

My family and I just returned from Charlotte, North Carolina, where my two boys competed in and won their first Jiu-Jitsu tournament.  On the ride home, one asked if he could get a college scholarship if he continued to win tournaments.

That reminded me how important financial aid is for most families. Almost all parents can benefit from understanding their options before their children apply.

Let’s explore the two different types of financial aid.

Need-based aid

Need-based financial aid includes federal loans, grants and work-study programs, in which students earn money through campus-based jobs. States may also provide need-based aid in the form of scholarships and grants.

The Free Application for Federal Student Aid, better known as FAFSA, determines your family’s eligibility for need-based financial aid. Your family must submit one in order to receive federal aid from any undergraduate or graduate institution.

Some colleges require an additional form called the College Scholarship Service Profile (CSS Profile) to determine eligibility for nonfederal financial aid. The CSS Profile gathers much more detailed financial information than the FAFSA. Because of this, it might come to a different conclusion about the amount your family should pay toward your child’s education, or your expected family contribution (EFC).

For example, home equity on a primary residence isn’t counted under the federal methodology (FAFSA) but is partially included under the institutional (CSS)methodology. Other factors will also affect your EFC. For instance, having multiple children in college at once will reduce your EFC and thereby increase your aid eligibility.

To determine your child’s need-based aid eligibility, schools subtract your family’s EFC from the cost of attendance. The EFC the school uses will depend on which type of aid it’s awarding.

Just because your family qualifies for aid doesn’t that mean you’ll receive it. A college doesn’t have to meet 100% of each student’s need, but most colleges do publish their percentages of need met on their websites. The more a college wants to admit your child, the more likely it is to offer a generous aid package, with more grants and scholarships than loans.

Because your family’s EFC remains constant, your child shouldn’t exclude higher-priced schools from his or her college search. If your family’s EFC is $30,000, you’ll receive no aid from a school that costs $30,000, but would be eligible for up to $30,000 worth of aid at a school that costs $60,000. Provided your student’s financial need was met with grants, your family would effectively pay the same price at both schools.

Merit-based aid

Students whose families don’t qualify for need-based aid can still receive merit-based aid. This type of aid is based on your child’s unique abilities, be they academic, athletic, musical or civic. It has nothing to with your families’ income or assets and generally comes in the form of scholarships, grants or tuition discounts — which means that it doesn’t have to be paid back.

Academic scholarships are the most common form of merit aid. They’re typically based on your child’s grades, standardized test scores (SAT and ACT scores) or class rank.

Many colleges publish their requirements for merit-based aid online so you can easily tell if your child qualifies. If his or her top choices don’t publish this information, you can use websites such as College Navigator to determine how your child’s academic profile compares with that of current students.

Understand your options

It’s not only world-class athletes and straight-A students who receive financial aid. That’s why it’s important for almost every college parent to understand the options available.

With the right college planning, you can save thousands of dollars in tuition costs. Ideally, your plan will include college selection, tax aid, and savings vehicles, and will consider how to best use your personal resources — and help you pay for college without jeopardizing your other financial goals, such as saving for retirement.

Be proactive and start developing the best strategy to pay for your child’s education today.

This article first appeared at NerdWallet.

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