There are options to borrow for college but few, if any, to borrow for retirement.
School loan? Yes! Retirement loans? No! Since that is the way of the world, it is most likely best to focus on saving for retirement and keeping those savings in your retirement account, according to the Star Tribune in “Do your kids a favor: Pick retirement savings over tuition.”
The number of people who are using retirement savings as a backup for paying for education are on the decline. The 2016 edition of that survey is down from 39%. It’s good that more parents are thinking twice about making this financial mistake.
Paying for college expenses from a tax-advantaged employer retirement account, like a 401(k), can become very costly. Here’s why:
- How does a 10% tax penalty on early withdrawals, if you’re under 59½ sound? Not good.
- The money you withdraw is taxed as income.
- You’re losing the tax-free growth of your savings. Remember, these retirement accounts grow tax-free.
- You lose the benefit of compounding, so your growth potential is losing ground.
The “least worst” option, say experts, is to fund a Roth IRA. Unlike qualifying contributions to a 401(k) or traditional IRA, the Roth IRA contributions are not tax-exempt. As a result, there are fewer restrictions on early withdrawals.
However, you’re still losing out in many ways. This includes when you get further along into your retirement years and you don’t have enough money to support yourself. Take a very long-term perspective on what will happen in the future.
Parents must understand that while it’s nice that they want to sacrifice to help their children through college, they may actually be generating far more stress for their children when the kids have to help Mom and Dad during retirement years. That’s likely when their kids are having children of their own, paying a mortgage and saving for their own children’s college expenses.
One last major consideration is: college aid. Your withdrawals from retirement funds will be counted by financial aid offices as ordinary income. If it pushes your total wages up too high, your college-bound student may not qualify for assistance.
Your best bet is to continue to fund retirement accounts because they are not taken into consideration, if your student qualifies for financial aid.