Roth IRA for College Savings: A Great College Investment Vehicle

Roth IRA for College Savings: A Great College Investment Vehicle

If you qualify, earning less than $95,000 for a single filer or less than $150,000 if filing jointly, you likely know the Roth IRA is a great way to save money for retirement. You receive no tax deductions when you fund your Roth account, but your money earns interest tax-free until you retire. Then, if you have owned the account for at least five years and you have reached age 59-1/2, your earnings are non-taxable when you make withdrawals from your savings.

You may not realize that some key features of the Roth IRA and the particulars of college financial aid awards also make the Roth IRA an attractive way to save for your children’s higher education expenses.

You can withdraw Roth contributions at any time

Since you paid federal tax on your contributions at the time you earned them, you can leave your money in your Roth account, earning interest tax-free. Withdraw your contributions when junior enrolls at the university with no tax or penalty and let the earnings rest until you retire.

If you start when your child is still in diapers, you can accrue a tidy sum. The most a couple can invest in a Roth is $8,000 ($4,000 for each spouse). Over 18 years, that adds up to $144,000. Even saving half of that amount, which is a more likely sum for a family that meets the Roth IRA income limits, results in a hefty $72,000.

Roth earnings can be withdrawn without penalty if used for higher ed

Avoid the 10 percent penalty on early withdrawal of earnings from a Roth IRA by using the money for higher education expenses. Remember: withdrawal of contributions are always tax free, but early withdrawal of earnings are subject to federal taxes. Paying taxes on the earnings seems a fair trade off for all those years of tax-free accrual.

Roth IRA avoids the financial aid radar

The formula for determining a student’s and parents’ ability to pay for college usually doesn’t take retirement savings into account. This is where the Roth IRA out performs other college savings plans like the Coverdell Education Savings Account or state 529 options.

Financial aid concerns also reveal the flaw in using the Roth IRA for college savings–distributions from the IRA can count as unearned income and throw a monkey wrench in the following year’s financial aid assessment. The benefits and drawbacks could balance out in the end, however.

Lower income savers get IRS tax credit for Roth contributions

Joint filers with income less than $50,000 receive a tax credit for contributing to any retirement fund. The lower the income, the greater the credit. But even the smallest credit, 10 percent of your contribution that year, is a good return on your investment.

Save for college and retirement in the same account

The Roth contribution limits are likely to continue to increase in future years. Parking both retirement and college savings in a Roth IRA is a one-stop solution for these important financial goals.

Education IRAs

Education IRAs

Last month, I briefly explained the difference between the various Individual Retirement Accounts. This time, I have another IRA to tell you about. It is the Education IRA. Education IRAs, for those under age 18, are quite different from other IRAs. For one thing, $500 is the total maximum that can be contributed to an Education IRA. This is in addition to any other IRAs you may have (recall that $2000 is the total that can be contributed to any other IRA or combination of IRAs). A person can also contribute to an Education IRA even if he/she does not have earned income. However, it should be noted that the $500 maximum contribution can be made only if the contributior’s AGI (adjusted gross income) is less than $95,000 for single people or $150,000 for joint filers. Furthermore, the ability to contribute to an Education IRA is completely lost if a single person’s AGI is above $110,000, or $160,000 for joint filers. The contribution is phased out in between those ranges.

As long as the Education IRA’s beneficiary’s higher education expenses (books, supplies, equipment, fees and tuition, and part of room and board if enrolled half time or more) are equal to or more than the Education IRA distribution for the current year, the distributions are tax free. In most cases,a 10% tax is tacked on if the distributions are greater than the qualified expenses. In addition, the beneficiary has 30 days after turning age 30 to use the Education IRA funds.

Obviously, there are other requirements and details which cannot fully be explained here. If you think an Education IRA sounds like something you’d like to invest in, your own research will prove invaluable. Two good places to start are at Kiplinger ( and the Motley Fool ( Good luck!