(FORTUNE Magazine) – 1. TEMPTATION

Desperate times, desperate measures. More and more parents, facing the six-figure college bills they've been dreading for a decade, are cheating the system by hiding assets or lying on financial aid applications. Most of the chicanery is relatively minor, the legal equivalent of inflating the charitable contribution line by $100 or $200 on your income tax forms. But some schemes cross the line from "accidental" omissions of a few assets to outright deception. Large-scale asset transfers between family members are becoming more common, and even more elaborate ruses are on the rise as well. One example: A parent halts distributions from a trust fund during a child's sophomore year in high school, thereby hiding the income from colleges.

This sort of tactic is a really bad idea, for several reasons. For one thing, you might get caught. College financial aid officers, charged with the task of allocating aid equitably, are keenly aware that a few people are taking advantage of the majority who play by the rules. Every year or so, Phil Wick, director of financial aid at Williams College in Williamstown, Massachusetts, receives an anonymous letter from someone claiming a student's parents are cheating. After investigating the case, he finds that "about half the time the charge has some merit--and half the time it doesn't."

Being found out can have heavy consequences--and not just for your child's college opportunities. Failing to respond honestly to questions on federal financial aid applications is a federal crime carrying up to a $10,000 fine and a possible jail sentence. Even if you get away with some scam, you might want to consider what sort of ethical message you are sending to your child.

2. THE BETTER WAY

Happily, there are a number of less sleazy methods to reduce the colossal costs of higher education. And the best way to find them is to look hard at several different colleges, learning how they award aid and structure their aid packages. You will discover fast that asset-protection schemes rarely work. One reason is that income counts far more than assets in most aid formulas. Colleges typically expect parents to contribute as much as 47% of their after-tax income to college expenses. But most look for just 6% of assets per parent, and some assets like 401(k) funds, IRAs, annuities, and life insurance are exempted. Not excluded are stock, bond, and mutual fund portfolios; and many private colleges will ask parents to tap a home equity loan for up to 5% of their equity each year.

All financial aid formulas take into account the age, assets, and income of both parents and children. Both are given asset- and income-protection allowances based on their age and the number of children in the family. Surprisingly, even very affluent families can be eligible for some aid--especially if lots of children are involved.

Take the case of a family earning $250,000 a year with four children, each one year older than the next and each attending an Ivy League university costing about $30,000 a year. For the year the family has four children in school, they could receive $40,000 in aid. In the two years when they have three children at college, they would get $10,000. For the rest, they would get zip--but $60,000 is considerably better than nothing.

Given what is at stake, both in terms of your child's future and your pocketbook, it is imperative to shop around. That's because universities with almost identical costs and academic stature can offer very disparate financial packages. Over four years the differences can translate into $40,000 or more in out-of-pocket expenses. Parents should also remember that most colleges need students. Experts like Raymond Loewe of College Money, a financial consulting firm in Marlton, New Jersey, estimate that as many as two-thirds of all colleges don't attract enough students to fill their classes.

Consider the case of Don and Joan Messinger, both high school teachers in Norwell, Massachusetts. In 1992 the Messingers' older son, Ben, was applying for the following autumn to several New England private colleges, including Colby in Waterville, Maine, and the University of Vermont. Private colleges were suffering from a shortage of applicants, since the recession, coupled with the soaring cost of college, was causing many middle-class families to apply only to state universities.

At the suggestion of a family friend, Ben Messinger also applied to St. Lawrence University in Canton, New York, which had taken the unusual step of using some of its endowment to attract talented applicants. Don and Joan Messinger's combined income in 1992 was about $70,000, and costs at both St. Lawrence and Colby were about $24,500. St. Lawrence offered Ben a scholarship of $13,500, while Colby's package was only $2,000. "There wasn't much of a choice in my mind, but I wasn't going to force it on him," Don Messinger recalls. Ben visited St. Lawrence and immediately liked it. Today, Ben, a premed senior with a grade point average of 3.8, is doing a semester abroad in Nairobi, Kenya. He also received a special scholarship to work at Harvard Medical School last summer and will apply to enter medical school in 1998. He has absolutely no regrets about his college choice, says his dad.

This year the Messingers' younger son, Tim, entered the University of Vermont and received about $5,000 in grants, or $3,500 more than the same university had offered Ben four years before--even though the Messingers' income has risen about 20% since 1992.

Some top universities are open about their willingness to compete for students. Carnegie Mellon in Pittsburgh tells parents that if they receive a better offer from another university, they should show it to them. "It's our hope that students will make the choice based on the institution, not the financial package," says Michael Steidel, director of admissions.

About half of all college students receive financial aid, and most private universities are willing to negotiate and sweeten their packages. Public universities, accountable to many constituencies, lack that flexibility. Eileen Wood, a high school secretary in Ballston Spa, New York, located 30 miles north of Albany, learned that lesson when her older son, John, graduated as class valedictorian and was offered a grant of about $11,500 by Harvard and a full scholarship from Rensselaer Polytechnic Institute in Troy, New York. One visit to Harvard's financial aid office brought a $2,500 increase in the grant it offered, meaning she had to come up with only $12,000 out of Harvard's total tuition, room, and board of about $26,000 that year. That was enough to persuade Wood and her husband, an engineer, to let John accept the offer from Harvard.

But this autumn, when Wood's younger son, Michael, was accepted at his first choice, the University of Massachusetts, the Woods were offered no aid. Over the past four years their annual income had climbed from about $80,000 to $90,000, but they were denied aid because of the rigid formulas followed by state schools. "I wanted to appeal, but they wouldn't talk unless you were experiencing an extreme situation," she says. "We'll pay $16,000 a year, more than we ever paid Harvard." Like many parents, they have little savings and will be forced to take out loans this time around.

Unless families have several children in college, even those who earn under $50,000 a year are expected to contribute--although substantial aid is generally available. Tony Chapelle, who edits a Wall Street newsletter, and his wife, Carla, a counselor at a mental rehabilitation center, are paying about $4,000 a year to put their 18-year-old son, Clyde, through Clark University in Worcester, Massachusetts, where tuition and expenses are about $26,000. The rest is being financed through a combination of a $15,500 scholarship, loans, and work/study programs.

During his senior year at the Manhattan Center for Science and Mathematics, Clyde Chapelle visited several universities. He was favorably impressed with Clark, Vanderbilt University, and several historically African American colleges. Most accepted him, but he just missed a scholarship at Vanderbilt that would have paid 90% of the total, and the packages offered by the other schools fell far short of Clark's.

Even families with high incomes can find ways to cut the bill. Tom Percival, an executive at APL Ltd., the cruise-ship operator, and a resident of San Ramon, California, earns more than $150,000 a year from his job and investments. He paid the full cost of more than $14,000 for his daughter Kim's first year at the University of California at San Diego. Looking for a way to ease her parents' burden, Kim eventually applied for a campus job as a resident assistant in the dormitories.

She held that job all through her sophomore year, and this year she is a head resident. Her apartment is fully paid for, and the total package amounts to $7,700 a year. "That's $10,000 a year in gross income," her father notes. "As a result, we've been able to put my 15-year-old son in a very good parochial school." Percival hadn't planned to pay the costs of Kim's graduate degree in bioengineering, but now he is reconsidering. Moreover, Kim has learned a lot about herself, while developing interpersonal skills in areas like conflict resolution.

3. MASSAGING THE NUMBERS

Along with looking at lots of colleges and studying a variety of aid packages, parents can also make a number of financial moves to increase their eligibility for monetary help. First, it's important to know how colleges evaluate families when they are awarding aid. Among the most closely examined numbers are a family's interest and dividend income. A family with $20,000 in interest and dividend income claiming financial assets of $60,000 would obviously raise questions, says Michael Brown, director of financial aid at Union College in Schenectady, New York. A self-employed business owner might sustain legitimate losses in a new venture that reduce his adjusted gross income to $35,000. But if the family is living in a $500,000 house in a tony suburb, he probably will get asked for more information, says Phil Wick of Williams College.

The biggest mistakes most people make when it comes to college financing are failing to fund their own retirements--remember, 401(k) plans and IRA assets are exempted--and, unless they are quite wealthy, putting too much money in their children's names. Children are expected to contribute a much higher percentage of their financial assets, 35%, vs. 6% for each parent. Here are several other basic tactics to consider:

--Pay off your credit card debt, mortgage, or almost any debt you have to reduce your assets.

--If you have a lot of money in your daughter's name and she will need certain big-ticket items like a computer or a car for college, use her assets to purchase them. That lowers the assets in her name.

--If you are going to borrow a substantial amount, consider taking out a home equity loan. Major advantage: The interest is tax-deductible.

--Have your children borrow in their name even if you plan to pay off the loan, advises Barrie Little-Gill, a Boston accountant. That's because most loans charge parents interest while their children are in college, but some loans for students don't charge interest until six months after graduation.

--Avoid taking a large capital gain, if possible, after the child's sophomore year in high school. If you must take a gain, make sure that financial aid officers don't double-count the money, once as an asset when you convert it to cash and then again as income.

--Grandparents who pay the tuition and other fees directly to the college sidestep the $10,000 limit in the Uniform Gift to Minors Act and can pay the full amount without tax consequences.

--Remember that the financial aid award is only an offer. Parents have the right to challenge a school's decision in the case of special circumstances, including a divorce, the layoff of one parent, or an illness in the family.

--If your child applies for early admission, many universities view it as a signal they can offer you less.

There are, of course, more complicated financial tactics. Parents could purchase a residential property in the town where the child attends college and pay him or her to manage it, transferring some assets while possibly reducing their own income. Self-employed parents can also hire their children in the summer to work in their businesses.

Colleges deem assets held in variable annuities to be off-limits, like IRAs and qualified plan savings. Thus, you may be urged to purchase a variable annuity to hide assets from financial aid officers and increase your aid eligibility. This rarely works, according to Scott Terry, an agent with Lincoln Financial Insurance Services. His reasoning: It simply doesn't make sense to base your investment decisions on whether you can avoid paying college costs. Variable annuities carry large early withdrawal penalties, and many have high expenses and commissions. Terry has advised more than 600 families about financing college and has only once recommended a variable annuity to a client. In that case, the man had saved more than enough funds for college but nothing for retirement.

For families with net worth exceeding $1 million, some leading trusts and estate attorneys expect to establish more family limited partnerships to facilitate the transfer of money between generations. But such partnerships are legitimate only if a family possesses a potpourri of assets like real estate and interests in private companies, says Michael Fay, chairman of the trust and estate department at the Boston law firm Hale & Dorr.

4. CONSIDER THE CHILD

Along with everything else, you should remember that you are dealing with a teenager whose interests can change rapidly. Making certain that your children know their major by their sophomore year could save you one or two additional semesters of tuition and expenses, or as much as $30,000. If your child wants to be a doctor or an architect, it might be wise to pay one of these professionals $1,500 or so to hire your child for a summer. It's one way to explore the depth of the child's interest in a particular career, says Dixie Fredericksen, a physical chemistry professor turned financial adviser in Nashville.

Parents typically worry that children who want to leave college to take time off are going to drop out. But a year off can turn many students from a child into a young adult with more sharply defined goals. One year working in a company's mailroom or waitressing at a ski resort can kindle ambition, and it might also help both the child and the family replenish their financial resources.

Above all, you should keep in mind that millions of Americans are making it through this unsettling experience without destroying their finances or compromising their integrity. Without doubt, it requires hard work. But since your child's college education is one of the biggest investments of your life, it's clearly smart to expend considerable time and energy planning for it. And don't forget: This is one of your most crucial tests as a parent.

REPORTER ASSOCIATE Rajiv M. Rao