Retirement planning and applying for student college financial aid is tricky. Both must be done in a way that complements the other. What many upper middle class (UMC) parents and students do not realize is that retirement savings and receiving the best financial aid goes together.
To begin, take a look at our White Picket College article entitled Retire Early. This covers the basics of why retirement savings are so lucrative. Now let’s discuss the specific types of accounts and how to use retirement to your advantage in an even more strategic way.
Please note: WPC always recommends taking notes on our articles and discussing them with a highly reputable accountant and financial adviser. We are not either.
The main types of retirement accounts for Americans are:
- 401k (becoming less popular)
- 401b (becoming more popular)
These accounts should be tax deductible. If not, this strategy will not work.
Parents contribute money before the base years, or the tax years that are evaluated by the federal government and college to determine how much educational financial aid to award. It is important to contribute to a retirement plan or plans before the base years. Why? A tax deductible contribution to your retirement plan during the base years will be looked at as income. But not as an asset. So if you contribute before filling out the FAFSA, your contribution will only count once as income.
For parents to benefit fully, they should contribute to their retirement plans before filling out any of the need forms. For example, parents A should contribute to their retirement plan in January and fill out the FAFSA soon after that. That way, the contribution cannot be assessed by the colleges as an asset. And the interest will not be assessed either.
Parents should make a mental note and mark their calendars. Contribute to retirement in January and fill out the FAFSA right after that. Both of these things done early can help students receive more money.
If they can afford it, parents can make a huge lump sum contribution to retirement plans right before filling out the FAFSA for the first time. Remember that the first year of the FAFSA determines all four years of aid. The award amount rarely changes from year to year unless there is a drastic change in the family’s finances.
*For instance, if parents contribute a $15,000 lump sum to their retirement plan and then fill out the FAFSA, that $15K does not exist to the feds or colleges.
In other words, these parents have brought their asset total down. That could be especially remarkable if you are a UMC on the cusp. Let’s say you’re UMC parents who make a combined income of $100,000 a year. You contribute $15k to your retirement plan. That $15K is now shielded from the colleges assessing it as an asset . That may qualify your child for excellent financial aid packages from universities such as Harvard, Rice, Stanford and Yale. (Again, it’s best to check with an accountant and financial adviser before choosing this strategy.)
Use your retirement planning to your advantage to increase college financial aid for your child.