Saving for College Part 2
Written by Gary Silverman, CFP®
Last time, we started a discussion about the pros and cons of using 529 plans or Roth IRAs to save for college expenses. We discussed a few drawbacks of using the 529, but one of the benefits is that currently 34 states allow for some kind of state tax deduction or credit for contributions. This essentially means you may get a tax break when contributing and withdrawing. Of course, this would be for your relatives in other states, since we don’t have a state income tax in Texas.
If you think you may want to get federal student aid, be aware that you must count the 529 plans as assets when filling out the Free Application for Federal Student Aid (FAFSA). This creates one of the biggest drawbacks of 529 plans. The expected family contribution is increased and in turn reduces or eliminates the student’s ability to qualify for financial aid. Currently retirement accounts are not included as assets for FASFA purposes, but if funds are withdrawn to pay college expenses they will then be included as income for the next year’s FASFA which will increase the Expected Family Contribution (EFC) and reduce aid. So if you can’t fully fund the student’s education a great option is to contribute to a Roth IRA instead, then have the student apply for and use the loans and grants. When they graduate, use the Roth to make payments for the loans. This can help the student while they are in school, because they will qualify for financial aid. It will also help them build a good credit score once they graduate because it shows they have made on-time payments toward their loans.
As you can see, there are a lot of different factors that go into deciding what plan to use for college savings. If you plan on fully funding or funding a large portion of the student’s college education the 529 plan might be the better option. Sure you might lose financial aid eligibility, but if you have the ability to pay for more of the expenses outright, you probably wouldn’t need those funds anyway. Your family will feel a real accomplishment when, at the end of the student’s college career, she isn’t left with a ton of student loan debt!
On the other hand, if you plan on providing less, and want to make sure the student’s eligibility for financial aid is left intact, you should consider using the Roth IRA. Yes, you will lose a bit of your own retirement funds, but if your student decides not to go to college, there is no penalty as there would be if you were saving with a 529 plan. Either way, if you plan on starting a college fund for a child, grandchild, or anyone else and don’t know what tool to use talk to your financial advisor, they can help you decide what’s best for your individual situation.
This article was published in the Wichita Falls Times Record News on November 15, 2015.