Student Loan question

Paying for College
21

@Brewcrew82 You are wrong - “the exception rules direct from the IRS” refer to the 10% additional tax on early distributions, and not to income tax on distributed earnings. Roth IRA earnings withdrawn before age 59.5 to pay qualified education expenses are subject to income tax (and as mentioned earlier, the entire IRA withdrawal is included in the FAFSA EFC calculation - unlike a 529 distribution).

You are also wrong about the amount of the Wisconsin tax deduction for contributions to an Edvest 529 account. The deductible amount in 2015 is $3100 per beneficiary, not $3000. Another recent change is that Edvest contribution amounts in excess $3100 per beneficiary per year can be carried over and deducted in future years.

22

Yes, you can still take educational tax credits if you use 529 money to pay for qualified education expenses, you just can’t double dip. It takes a little extra planning, but it’s not that hard. Just pay for $4,000 of expenses with funds that aren’t already tax-advantaged, and you’re all set.

Lots of people.

From the IRS:

However, you can take distributions from your IRAs for qualified higher education expenses without having to pay the 10% additional tax. You may owe income tax on at least part of the amount distributed, but you may not have to pay the 10% additional tax.

https://www.irs.gov/publications/p970/ch09.html

If you use a Roth distribution to pay for qualified education expenses, you will not have to pay the 10% penalty on any distributed earnings, but those earnings will still be subject to ordinary income tax. That’s the part in the italics above that says “you may owe income tax on at least part of the amount distributed…”

23

The fact that parents can use Roth IRA money to pay for educational expenses for kids doesn’t mean that they
should! Frankly I have been advising parents to NOT use any retirement monies, including those in Roth IRAs , for education for kids. I never thought it was a good idea to compromise parent’s retirement for almost any need. Parents don’t have as much time to recoup this loss of funds as their kids would have.

24

@brewcrew82: Another correction to your post: Using 529 money to pay for up to all educational expenses doesn’t necessarily preclude you from taking the AOTC.

See IRS Publication 970 (2014) Chapter 8, page 60, example 2.

25

First of all @BelknapPoint…how do you do that shading when quoting someone else (not seeing that option anywhere in the reply box)? I’m not sure how to do that…so I’ll use quotes.

"I realize that there are limits to Roth contributions that are not there for 529 plans…but seriously, how many people are contributing more than 5K or 6K a year to their 529 plans?

Lots of people."

I would be willing to bet that close to 90% of people saving for college for their kids do not put more than $6K aside every year for this. We have save $3K per year and when I tell other parents that, they are surprised at that we are saving that much. More then half the adult population does not even have any money saved for retirement, so I would find it hard to believe that a majority or that even 20% of college savers are putting that kind of money away. In addition, if you are saving for multiple children it might make sense to put that kind of money away. However, if you have one kid (like we do) and you that kind of money away every year from the time the child is 1 and earn a modest 4%, you would end up with about $180K. Probably more than you need for most schools, especially if you child goes to school in state. So now you have a larger than needed college savings and pretty much no flexibility to what you can do with that extra money, unless you are willing to take a 10% penalty (or…what if your child ends up not going to college, or gets a ton of scholarships to pay for much of their education).

So, that also goes to your first point in regards to paying for some education with non tax advantaged funds. What if you have saved enough or more than what your child will need? Then using non tax advataged funds is not really an option and again, you are stuck with extra funds that offer little flexibility in regards to distributions.

"However, you can take distributions from your IRAs for qualified higher education expenses without having to pay the 10% additional tax. You may owe income tax on at least part of the amount distributed, but you may not have to pay the 10% additional tax.

https://www.irs.gov/publications/p970/ch09.html

If you use a Roth distribution to pay for qualified education expenses, you will not have to pay the 10% penalty on any distributed earnings, but those earnings will still be subject to ordinary income tax. That’s the part in the italics above that says “you may owe income tax on at least part of the amount distributed…”"

I see the word “may” many times in that paragraph when it talks about being taxed…not that you will definitely be taxed. I think that paragraph is referring to traditional IRAs and then it would make sense that the distributions are taxed when they are withdrawn. I’m talking about Roth IRAs. Roth money is contributed after taxes (just like 529 plans), so they would not tax it again when it is withdrawn.

“Frankly I have been advising parents to NOT use any retirement monies, including those in Roth IRAs , for education for kids. I never thought it was a good idea to compromise parent’s retirement for almost any need.”

My point was not to use a Roth IRA plan that was set up for purposes of retirement. It was more for the person who already has a retirement plan set up through work and you would only be setting it up for the educational expense purposes, while also knowing that if you end up not using it for education purposes, you can then still use it for retirement purposes (an option not available with 529 plans).

26

We’re part of the:

who have scrimped and saved in our 3 kids 529 accounts.

We wouldn’t go NEAR any retirement withdrawals because the future is so financially uncertain.

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I’m not going to discuss 529 accounts.

But I will speak to retirement accounts…and that includes Roth accounts. I do not ever advise folks to withdraw money from their retirement accounts to pay for college. The reality is, it’s very difficult to make that payback…I mean if you could do that, you really wouldn’t need to borrow.

Your retirement income needs to be planned well in advance of retirement, and should not be compromised.

Our financial advisor told us we could repay loans with retirement income. But that reducing retirement income potential was not a suggested strategy for any reason.

We contributed the max to both DH, and my retirement accounts for years, including the extra allowed for catch up when that was allowed. If we had needed to, we would have reduced our retirement contributions to pay for college…because at least we had a sizable amount in those accounts to earn interest. But we never had to do so.

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Again…not advocating using your retirement funds to pay for college. My point is that if you already have a retierement plan that you are contributing to at work, that, depending on various circumstances, setting up a Roth soley with the purpose of using the funds to pay for your child’s education is a possible option (with pros and cons as many have pointed out).

@“aunt bea” we have also used 529 plans to save for our son since he was a baby (he’s now 17). However, based on our personal circumstances and all the information I have read, if we had to do it over again we would have established a Roth IRA account with the sole purpose of saving for our son’s education (we both have retirement accounts through work…and I agree that its pretty much never a smart idea to withdraw from retirement savings prior to retirement).

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You can quote text by doing this at the beginning and end of the quoted passage: (quote)This will appear shaded.(/quote) Except use brackets [ ] instead of parentheses.

I don’t know what the statistics are, and I’m too lazy on a Saturday afternoon to engage in any research. But lots of 529s are funded by grandparents, great uncles, other relatives, etc. In other words, folks with more disposable income than working parents who are also saving for retirement; folks who want to help a younger family member afford an education. I don’t know many relatives like that who choose to assist with retirement savings.

Using non-tax advantaged funds is always an option. No one is forcing you to use your 529 balance on current expenses. If you’ve saved more than you need you’re in a very good spot. You can always take left over 529 funds and change the beneficiary, or wait until you have grandchildren and use it for their education (how about those compound earnings?), or use it yourself for qualified expenses.

I suspect the word “may” is used because you can take a Roth distribution that doesn’t include earnings, and therefore there are no tax consequences. But a pre-retirement Roth withdrawal for QEE, that includes earnings, will be subject to ordinary income tax on the earnings portion of the distribution. Clink on the IRS link and look at the paragraph headed “Introduction.” It says it applies to any IRA, including a Roth IRA. You’re right that after-tax contributions to a Roth do not get taxed again when they are withdrawn. But a withdrawal of earnings for qualified education expenses, before you turn 59 1/2, while not subject to the 10% penalty will be subject to ordinary income tax.

If you think about it, there really is no tax advantage to using a Roth before you turn 59 1/2 to pay for qualified education expenses. Contributions that you take out have already been taxed. Earnings that you take out will be taxed. You’re giving up the tax-free retirement income that you would otherwise get if you wait until age 59 1/2, and you’re giving up the time value of money that you would otherwise enjoy if you waited until retirement age. The only advantage, other than a wider range of investment choices, is that if your child doesn’t go to college you’re not faced with potentially paying a 10% penalty on distributed 529 earnings. But as I’ve already mentioned, there are other things you can do with a 529 that doesn’t get used by the original intended beneficiary that will keep all the 529 benefits intact.