Check my math, please - IRA vs. 529

hillite
Mon, 26 Mar 2018 02:14:04 +0000

It has taken me some time to get back to it, but I did research the FAFSA treatment of Roth IRAs. I have come to the conclusion that the bottom line is the same as that for traditional IRAs. As described in my original post, with a traditional IRA you save taxes up front, but then pay them later (which is a wash); but since the distribution is considered income, it reduces FAFSA aid by 47%. With a Roth, you don’t avoid taxes up front, but you don’t pay them later (also a wash); but my reading of the FAFSA instructions is that distributions from a Roth IRA are also considered “untaxed income” and therefore reduce need-based aid eligibility by 47%. In each scenario I assume the distribution is taken prior to Jan 1 of sophomore year.

The wording of the FAFSA instructions invites confusion, however. Line 94e instructs you to add to parental income “Untaxed portions of IRA distributions…” 1) It appears that “IRA” encompasses both traditional IRAs and Roth IRAs, so the instructions apply. 2) In the case of distributions from Roth IRAs, those attributable to contributions have already been taxed and those attributable to earnings are not subject to tax (assuming various conditions are met).

However, the instructions specifically instruct the filer to subtract the amount on line 15b of his/her 1040 form from the amount on line 15a of his/her 1040 form. Line 15a is the amount of the total distribution from the (Roth) IRA and line 15b is any taxable amount from that distribution (eg, anything other than a “qualified distribution”). So while any qualified distribution is not included in AGI (and therefore not subject to tax), FAFSA includes it as “untaxed income”.

PrivateID - you wrote “When you use a 529, ROTH IRA or don’t take the money out of a regular IRA till Jan 1 of sophomore year (because of the prior prior rules), that income is only counted once.” I’m especially interested in your thoughts, given that I reach a different conclusion. Have I missed something?