<p>Just looking for someone knowledgable about FAFSA to explain something for me. I did a few "what-if" scenarios on a collegeboard financial aid calculator, experimenting with different levels of income and contributions to my 401(k). I was considering increasing the amount I contribute to my 401(k) each pay period. I was stunned to see that inceasing the amount of 401(k) contribution, and reducing the amount of taxable income, actually increased our EFC. Why would that be the case?</p>
<p>Contributions to retirement accounts are not allowed to reduce to income for FA purposes so they are added back to available income in the EFC formula. So the contribution itself does not affect the available income in the formula.</p>
<p>Tax is an allowance against income in the EFC formula. If you reduce your tax (by making an 401k contribution) then your allowances against income are reduced making the income available in the formula higher.</p>
<p>For instance if before making any contributions your AGI is 60,000 and your taxes are 6,000 then the formula deducts the taxes from the AGI giving available income in the formula of 54,000.</p>
<p>60,000AGI -6000taxes = 54,000 available income.</p>
<p>Now you decide to make a retirement contribution of $4,000 which reduces your AGI to 56000, and say this reduces your taxes to 5600. In the EFC formula the retirement contributions are added back to the AGI, returning it to 60,000, then your taxes of 5600 are deducted from that making available income in the formula 54,400.</p>
<p>56,000AGI + 4,000 contribution - 5600taxes = 54,400</p>
<p>Higher income available = higher EFC.</p>
<p>I was hoping you would respond! Thanks for explaining - but this is crazy. It’s hard enough to pay for college and save for retirement at the same time - this stacks the deck even higher. But thanks for letting me know that my experimentation was accurate. Disappointing though - now I need to rethink priorities.</p>
<p>What you put into a 401(k) or IRA is recorded as income for the year it is earned. BUT since it is in a retirement account, it is not recorded as savings in later years. Once I figured that one out, I was able to convince Happydad to max out his 401(k) for a couple of years, and we “spent down” cash that had been in a money market account. We still have the same amount of money overall, but the distribution is now different.</p>
<p>Of course, now that Happykid is set to graduate from HS, there will be precious little spare change to save anywhere. I’m just glad we could do what we could when we could.</p>