New Visitors Privacy Policy Sponsorship Contact Us Media
Baby Boomers Family Green Home and Auto In Critical Condition Just Starting Out Lifestyle Money
- advertisement -
Bankrate.com
News & Advice Compare Rates Calculators
Rate Alerts  |  Glossary  |  Help
Mortgage Home
Equity
Auto CDs &
Investments
Retirement Checking &
Savings
Credit
Cards
Debt
Management
College
Finance
Taxes Personal
Finance

Columns: College Money Guru
Joseph Hurley, CPA   Expert: Joseph Hurley, CPA
College Money Guru
Expenses down in recent years
College Money Guru

529 beats Roth IRA for college savings
 

Dear College Money Guru,
Can my son use a Roth IRA -- rather than a cost-laden 529 -- to fund his 9-month-old daughter's future education?
-- Jim

- advertisement -

Dear Jim,
To contribute to a Roth IRA, you must have earned income more than or equal to the amount of the contribution. Dividends and interest income don't count as earned income. Many children do have jobs and can start a Roth IRA, but I've never heard of a 9-month-old joining the workforce -- except, perhaps, for those actors in baby commercials.

Even if a child does qualify for a Roth IRA, I think it makes for a much better retirement vehicle than it does a college-savings vehicle. Earnings on a Roth can be distributed tax-free after the account owner reaches age 59½ and satisfies a five-year requirement. But earnings that come out before age 59½ are taxable even when used for college expenses. (The 10-percent early distribution penalty may be waived under the special exception for higher-education expenses.)

Of course, one nice part about a Roth IRA is that your contributions come out before the earnings do. In addition, the contributions portion can be used for any purpose, including education, without tax or penalty.

The surprise for many parents, however, is the potential financial-aid penalty: The entire IRA distribution, taxable or not, must be included in base-year income on the student's federal financial-aid application for the following year. This can dramatically reduce a need-based aid package.

In my opinion, your son should take another look at a 529 plan for his daughter. Contrary to popular belief, 529s are not necessarily laden with a lot of costs. In fact, the expenses associated with 529 plans have dropped significantly over the past few years.

Savingforcollege.com, now owned by Bankrate.com, recently published its annual 529 fee study comparing costs between all of the "direct-sold" 529 plans.

The study underscores how low costs are for many 529 plans. For example, in the Ohio CollegeAdvantage 529 plan, a $10,000 investment in the least-expensive equity investment option will cost only $293 over 10 years. That figure includes the expenses of the underlying Vanguard mutual funds.

With a 529 plan, the distributions used to pay qualified higher education expenses are tax-free regardless of your age, and they are not included in base-year income for federal financial-aid purposes.

Bankrate.com's corrections policy -- Posted: April 14, 2008
Read more College Money Guru columns
Ask a question

College Financing
Compare today's rates
NATIONAL OVERNIGHT AVERAGES
Stafford - in school 3.86%
PLUS loan 6.41%
Private loan 7.52%
RELATED CALCULATORS
  College planning  
  Tax-free savings  
  Financial aid  
  Home equity loan  
VIEW ALL  
FINANCIAL LITERACY
Rev up your portfolio
with these tips and tricks.
- advertisement -
- advertisement -

About Bankrate | Privacy Policy/Your California Privacy Rights | Online Media Kit | Partnerships | Investor Relations | Press Room | Contact Us | Sitemap
NYSE: RATE | RSS Feeds |

* Mortgage rate may include points. See rate tables for details. Click here.
* To see the definition of overnight averages click here.

Bankrate.com ®, Copyright © 2014 Bankrate, Inc., All Rights Reserved, Terms of Use.