Managing both college and retirement savings while paying regular bills puts a strain on many people's paycheck. Using retirements savings to pay for college seems like the perfect solution for some people. But pulling money out of your retirement funds early usually means paying a hefty penalty. Depending on the type of retirement savings you've accumulated, you may be able to tap into your savings to pay for tuition without incurring a penalty.
Many people save for retirement with Individual Retirement Accounts (IRAs). These include SEP-IRAs for self-employed persons as well as SIMPLE IRA plans and other IRAs. Usually, if you take money out of your IRA before you turn 59 1/2, you must pay taxes on the amount you withdraw, plus a 10 percent penalty. However, you can withdraw money from your IRA to pay for tuition and other expenses related to post-secondary education for yourself, a spouse, a child or a grandchild, without being subject to the 10 percent penalty. You will, however, owe taxes on most or all of the amount you withdraw, depending on your individual tax situation.
Your employer may establish a 401k for you and other employers. You can contribute to this plan through your paycheck. Your employer may also contribute money to the account. The IRS allows you to make withdrawals from your 401k in order to pay medical bills, or for a down payment on a home or tuition expenses. But you'll still have to pay the10 percent penalty on these hardship withdrawals, and you won't be able to make new contributions to the 401k for six months after the withdrawal. In order to make a hardship withdrawal from your 401k, you must be able to prove you don't have other investments or resources you could use to pay for tuition.
Although you can't borrow money from an IRA, many employers will allow you to borrow money from your 401k. You borrow the amount you need and pay the loan back through paycheck withdrawals. You don't earn interest on the amount you borrow, and you may have to pay interest. You can only borrow a percentage of the total amount you have vested in the account. The vested amount is your contributions plus any contributions the employer has made that you'd qualify to receive if you left your job . Usually, in order to be vested, you have to have worked for the employer for a set amount of time.
If you withdraw money from your retirement savings for school expenses, you can't withdraw more than the amount of the expense. When paying tuition, for instance, you have to deduct any scholarships or grants from the total before you calculate how much you can withdraw. But there's an important caveat for withdrawing money to pay for tuition as it will reduce the amount available to you at retirement. Depending on how close you are to retirement age, replacing the money can be difficult.
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