Dear Dr. Don,
I want to save money for the education of my 10-year-old child. What is the best way to do this while keeping an eye on my retirement, too? I guess my questions are: Which type of savings plan can take care of both? What will be the tax advantages?
— Teresa Triage

Dear Teresa,
I’m a proponent of financial flexibility as well as parents prioritizing their retirement savings goals alongside the goal of a college education for their children. I just want you to keep in mind that, as distributed, the funds will be used toward one goal or the other. The only way the account takes care of both is for you to invest enough money to accomplish both goals.

A traditional or Roth IRA can provide tax-advantaged savings that can be used for either goal. For a traditional IRA, early distributions before age 59½ used for qualified higher-educational expenses are not subject to the 10 percent penalty tax as long as the distributions are not more than the qualified higher educational expenses.

The tax implications of the Roth IRA are a bit more convoluted. Distributions out of a Roth IRA for qualified higher educational expenses prior to age 59½ aren’t qualified distributions, but aren’t subject to the 10-percent penalty tax.

Distributions of the investment earnings on contributions may be subject to income taxes, but they’re the last monies to come out of the account using the IRS’s ordering rules for distributions. This means that, at a minimum, you can use your contributions into the account to fund qualified higher education expenses without paying income tax or a penalty on the distribution. Confused? Read IRS Publication 590, Individual Retirement Arrangements, or talk to your tax professional.

The issue in using the Roth IRA or traditional IRA to fund college expenses is the impact that the income has on the student’s financial aid package. Retirement accounts are treated favorably in calculating the expected family contribution, or EFC, but the income received out of these accounts counts toward the EFC.

If you’re not sure whether you can put aside enough money for your child’s college costs plus save for your retirement, err on the side of caution and work on the retirement fund. Working with a financial planner to come up with a comprehensive financial plan could help you determine how realistic your twin goals are, and the best way to work toward them. The Bankrate feature, “Financial planners: Not just for millionaires anymore,” can help.

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