6/17/2013 5:45 PM ET|
Robbing retirement to pay for college
It takes a lot of savings to build a successful retirement. It also takes a lot of money to send a kid to college. Some parents are finding it hard to strike a balance.
Paying for your child's education is a laudable goal, but it may not be realistic for some parents who could wind up jeopardizing their own financial future in order to help put their sons and daughters through college.
Parents who are saving for college frequently raid retirement funds -- or plan to do so -- to pay skyrocketing tuition bills, according to a study released recently by Sallie Mae, the nation's largest student loan provider. More parents are saving for their retirement than for their children's education, but these families often plan to draw from retirement savings to help cover the costs of college, especially as other goals -- from building up a rainy-day fund to increasing general savings -- take priority. "The economy is putting pressure on families in terms of whether they're saving, how much they're saving and where they're saving," said Sarah Ducich, a senior vice president for public policy at Sallie Mae.
The report "How America Saves For College 2013" surveyed more than 1,600 parents with children ages 18 or younger and found that half of parents said they were focused on college savings, while 60% were focused on saving for retirement. But if they have to choose, parents are opting to boost their retirement savings. Among parents who are not saving for college, 42% of said they are saving for retirement.
The good news: More than three-quarters of the parents surveyed who are saving for college are also focused on saving for retirement.
The bad news: Many of the families who say they are saving for college admit that they are doing so through their retirement fund. One-third say they intend to use such savings for college. The remaining two-thirds say they would use their retirement savings to pay for college, but only if necessary.
Families are more likely to use retirement savings to fund college as their children get older and the urgency intensifies. Less than half (44%) of families with children under age 6 would use retirement savings to pay for college, while more than seven in 10 (74%) families with teens would use their retirement for college, the survey found.
How much retirement money are they putting toward tuition and other college expenses? Nearly 6% of parents in the thick of paying for college say they are drawing on retirement funds by taking a loan or withdrawal of $6,475 on average, according to a 2012 Sallie Mae survey.
Here's the problem: Most parents don't realize paying for college with money withdrawn from a retirement account can result in a double whammy. First, the withdrawal can count as income, which is taxable. Plus, with that additional income, you'll reduce your financial aid eligibility the following year.
"Between the tax impact and the reduction in aid eligibility, the family may net very little return on their investment," said Mark Kantrowitz, the publisher of Fastweb.com, a free scholarship matching service. "It also sacrifices retirement funds," he said.
By borrowing from their 401k or IRA accounts, parents not only reduce their retirement balance, but also miss out on accruing interest. And if you're younger than age 59 1/2 and take a loan from your 401k, you'll have to pay back the loan with interest in five years, or immediately if you change employers.
Jump-start your college savings
So how can parents avoid raiding their retirement funds for college? It sounds very simple: Make a plan to save. The Sallie Mae study showed 70% of families with a set goal to save for college are confident they will save 10% of future college costs.
To ramp up college savings, open or add to a 529 college savings plan. These plans allow you to save money for college, then withdraw the funds later for qualified college expenses tax-free. Studies show that people who use 529 college savings plans are more successful college savers than those without 529 plans.
The College Savings Foundation's 2012 parent survey found that 22% of 529 owners have saved from $10,001 to $25,000, while only 9% of parents without 529 accounts have saved a similar amount. Likewise, 18% of 529 plan owners reported saving from $25,001 to $50,000, while only 4% of parents without the accounts managed to save as much. Overall, parents who have not opened a 529 plan are the least-effective college savers; nearly half have no college savings.
To help jump start your college savings, here are a few tips from Kantrowitz, who is also publisher of the financial aid information website FinAid.org:
- Make savings automatic, so you don't have to think to save.
- Increase the amount you save each year. You will quickly get used to not having the money in your checking account.
- Whenever you get a windfall, such as a big income tax refund or inheritance, contribute all or part of it to the college savings plan.
- When expenses change, resulting in some savings, devote the savings to college. "When your child no longer needs diapers or day care, for example, redirect the savings to their college fund," Kantrowitz says.
- Use a rebate program, such as Sallie Mae's Upromise, to help build your 529 plan faster.
- Get grandparents and other relatives involved. Have them contribute to your children's 529 plans instead of giving gifts on birthdays and holidays, making college savings a true family affair.
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Work your way through college! That's how many people have done it for years.
It may take a little longer, but having your own hard-earned money invested in your education makes you really want to study hard. Many kids I went to college with didn't give a crap and failed out because their parents paid for everything.
I missed a few parties because I had to work to pay for the upcoming semester. At least I woke up the next morning with cash in my pocket instead of hungover.
Get a job and work your way through college. That's what I did.
I think the following statement from the article should answer at least part of your question, ChuckD3:
"Here's the problem: Most parents don't realize paying for college with money withdrawn from a retirement account can result in a double whammy. First, the withdrawal can count as income, which is taxable. Plus, with that additional income, you'll reduce your financial aid eligibility the following year."
I worked full-time and went to school part-time until I earned my degree at age 40. My son knew that my income was used for our living expenses and that I would not raid my retirement fund for anything less than a true emergency. It was understood that if he wanted a career which required a college education, he needed to study, earn good grades, and apply for scholarships and grants to finance going to college. He was Valedictorian of his class and patched together enough scholarships and grants to pay for most of his educational and living expenses. He took advanced placement courses while in High School and a heavy course load at the university, so was able to finish his Bachelor's Degree (with Honors!) in 3 1/2 years. He was accepted into their PhD program, is working as an RA, and expects to finish his PhD two years from now with a total student loan debt of approximately $30,000. His degree(s) are/will be from a well-regarded university (current cost per semester $48000 before financial aid) in an in-demand area of study with good job prospects. Unlike many of the kids who were in his Freshman class, he learned to budget his time and money. Many of them either dropped out or took extra time to finish their degrees. He recently thanked me for providing him with a real-life example of the value of an education, hard work and initiative.
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