Senator Rand Paul says that taking money from your retirement accounts to pay off student loans will create a “safer retirement” – but many financial advisors disagree.
Paul, a Republican Senator from Kentucky, proposed the HELPER Act – short for Higher Education Loan Payment & Enhanced Retirement Act – this week, which would allow Americans to either pay for college or pay student debts with money in their 401 (k) or individual retirement account.
Under this proposal, employees would rely on their own contributions as well as employer matches to pay off student loans faster, Paul said. The senator tweeted a scenario where a recent college graduate who makes $ 46,000 at a company that accounts for up to 6% of her salary could pay off her loan with less interest in less than seven years, as opposed to 15 years if she had. do not have access to this plan. He suggested that the employee would have amassed $ 46,000 in retirement account contributions (or $ 57,000 given a 5% annual return) over the remaining eight years. (The worker had $ 30,000 in student loans with an interest rate of 4.54%).
Individuals could withdraw up to $ 5,250 from their retirement accounts with no penalty and tax, as could their parents, to help with those college expenses.
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However, financial advisors say the retirement plan and potential nest egg proposal could be devastating. “There are already too many reasons (or excuses) to avail of retirement plans,” said John Power, a financial advisor and director of Power Plans in Walpole, Massachusetts. “College loans can be repaid over time.”
Not only would the bill wipe out a young employee’s chance to save small sums of money over an extended period of time, but it could also wipe out their parents’ retirement plans. “It’s a quick fix to clearing the student debt that will lead to a much bigger retirement crisis in years’ time,” said William Parrott, financial advisor and president of Parrott Wealth in Austin, Texas. “In addition, people with student loan debts have saved little money for retirement.”
In Paul’s example, the employee either invested $ 230 per month on student loans to pay off the full amount in 15 years without saving for retirement, or paid $ 437.50 (using employer contributions) on student loans and then started saving retired for six years and nine months later. However, this scenario, which takes into account an employer match of 6%, assumes a more generous company contribution than usual. In comparison, the average agreement is 4.2% and can be conditional.
The proposal also takes away one of the biggest benefits young adults get from saving early for retirement: compound interest. Investing $ 5 or $ 10 a month may not seem like much, but even those contributions, along with interest and investment income, add up to a sizable amount of money in a portfolio later in life. (It also builds the habit of investing in the future, and as income rises, so may the amount of contributions.) “It destroys the compounding effect of qualifying retirement plans and takes the person even further away from their retirement goal,” said George Gagliardi. Financial advisor at Coromandel Wealth Management in Lexington, Massachusetts.
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However, some proponents said Paul’s suggestions have advantages. The bill would allow individuals to use pre-tax dollars to pay college bills and student loans, and the money would flow from a retirement account instead of a 529 plan, making it a foreclosed asset in the FAFSA filing, Timothy said Neuville, a tax officer advisor at Marcum Financial Services in Irvine, California.
IRA attendees can already use dividends on higher education with no penalty, though that money is still taxed, said Monica Dwyer, vice president of Harvest Financial Advisors in West Chester, Ohio. “I suppose it would be nice not to offer penalties for distributions from 401 (k) accounts, but keep in mind that this law benefits the government by encouraging withdrawals.”
The proposal also assumes that Americans have access to a 401 (k) plan or one with an employer match, or have the financial means to pay for the match. It also raises a sensitive question as to whether parents can or should use some of their retirement assets towards a child’s tuition or college debt.
Using retirement funds to pay off student or college debts could exacerbate Americans’ current struggle to save for retirement, said Kevin Mahoney, a financial advisor and founder of Illumint in Washington, DC creating or exacerbating another problem ” , he said.