529 vs maxing out 401k? Have pension as well...
by AA_55 » Sat Feb 08,
2014 2:29 pm
I have about 20 years to go until retirement. I'm comfortable that my current 401k and Roth IRA contributions, along with a significant CalPERS pension, will set me up fine for retirement. I have a 3-year old daughter; I'd like to start saving for her college expenses. I am not maxed out on my 401k or IRA contributions. I do not get an employer match on my 401k. Both my IRA and 401k have pretty low fees.
Is there any reason for me to consider a 529 fund for the college savings, or should I contribute more to my 401k and IRA, then in 15 years take a loan or early withdrawal from either of those to pay for college? I realize that there is an early withdrawal penalty (I'll be around 50 at that time) for the 401k, and I'll also have to pay tax on the earnings. But, I was thinking this may be offset by the ability to more easily obtain college financial aid since the retirement accounts shouldn't negatively affect financial aid eligibility. However, if we are able to obtain financial aid, but also pull funds out of the IRA or 401k, then that would be counted as income and we may have a harder time getting financial aid the next year.
It certainly seems at face value like it would be better to go the 529 route, but I'm hoping I'm not missing something obvious. And of course, there's always the chance she might not go to college (or other higher education)- I think that's a pretty minimal chance, however. Also, I'm in CA, so I get no deductions for 529 contributions. My goal is to be able to save roughly 50% of a typical 4-yr UC education.
I know it's generally recommended to max out retirement contributions prior to college savings, but my CalPERs pension should cover me pretty well in retirement, thus my current dilemma.
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Joined: 8 Feb 2014
Re: 529 vs maxing out 401k? Have pension as well...
by Laura » Sat Feb
08, 2014 2:46 pm
You are still a long way off from receiving that pension and much can change in the next 20 years. I would make sure you are MORE than covered on the retirement side before starting education investing. Maximizing your retirement accounts isn't the key but hitting something like 20% of gross income into your retirement accounts is. It all depends on your income. If you really do have that all covered it could be time to move into a 529 for education. I would not plan retirement withdrawals to fund education so using the 529 is a great choice.
Laura
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Joined: 19 Feb 2007
Re: 529 vs maxing out 401k? Have pension as well...
by sunnyday » Sat
Feb 08, 2014 3:17 pm
You could consider this: contribute to a Roth IRA and treat that as your daughters college fund. If you can contribute $5,500 ($11k if married) for the next 15 years you'll have $82,500 ($165k if married) of contributions that you can withdrawal without having to pay tax on it. Two years before before applying for financial aid, I would run an expected family contribution calculator, multiple the result by 4 years and add 5.6%, and transfer that amount from your Roth contributions into a taxable account. The reason I like this approach is that it's much more flexible if things change.
Are there any negatives to that approach?
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Re: 529 vs maxing out 401k? Have pension as well...
by Jack FFR1846 »
Sat Feb 08, 2014 3:21 pm
Max the 401k and IRA or Roth IRA. As the parent of a high school senior, I have been swimming in college finance for the last year. Some things to understand:
(at least with today's rules)
On you FAFSA (federal financial aid form), you do not disclose Insurance or retirement funds as assets. (401k, 403b, IRA, Roth IRA, whole life....which I do NOT recommend, by the way).
A 529 plan is considered an asset. If the plan is in your child's name, the asset is considered available to use to fund college, which means that from a "need" basis, they see it as something they expect you to pay. Kid's assets are considered at a higher rate than parents and they have no amount that is waived. From the first dollar, all of the child's assets are "available" at a 20% rate each year. So a $10,000 529 will show $2000 available and thus reduce the "need". Parents assets are treated differently. Depending on the oldest parent's age, number of kids in college and size of family, you are assessed an exempt amount of assets. Look at any FAFSA calculators to see what that is. Beyond those assets, 5.64% of your assets are available for college each year.
To hammer my original point home, if this money is instead in a 401k or IRA, there is no assumption that you will use any of that for college.
There is a caviat to this. While state colleges and a good number of private colleges ONLY use the FAFSA form for determining your "need" and EFC (expected family contribution), there are some who are what are called CSS colleges. They require additional disclosures and private colleges can do as much digging as they want.
Some more good news (sarcasm).....your income is more highly considered in what you can afford, so look at that. If you make $500k a year, you're getting nothing anyways, so put the money where you want.
Some actual good news: There are merit scholarships that colleges give students based on their high school grades and these can be for one year or can have a minimum GPA attached and go for more. My son has been accepted at his #1 choice and was given $11k a year in merit scholarship for each of his 4 years, which we are extremely happy with as we don't expect anything in need based financial aid.
A common practice is for a grandparent or other person to set up a 529 for a child. This is not owned by you or your child. At the moment, FAFSA does not ask about this. Some private colleges do as this trick is pretty well known and has been going on for a while. Rules could change and of course, if you put money into a 529 controlled by someone else, they have complete control over it, including taking the entire balance out (minus penalties) and using it to buy themselves a Porsche.
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Re: 529 vs maxing out 401k? Have pension as well...
by freddie » Sun
Feb 09, 2014 12:28 am
The problem with this work around is that when the grandparents pay, it counts as income to the student for the following year. And students are expected to pay 50% of their income towards college. It pretty much means you only want the grandparents paying for the last year of college if you expect to get financial aid. On the other hand any money in the parents name has 5% of it allocated towards your EFC.
Jack FFR1846 wrote:A common practice is for a grandparent or other person to set up a 529 for a child. This is not owned by you or your child. At the moment, FAFSA does not ask about this. Some private colleges do as this trick is pretty well known and has been going on for a while. Rules could change and of course, if you put money into a 529 controlled by someone else, they have complete control over it, including taking the entire balance out (minus penalties) and using it to buy themselves a Porsche.
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