Roth for college
If a client takes a Roth distribution in the current year, can they still avoid the 10% penalty for college costs incurred in the prior year, or do they both have to be done in the same year?
If a client takes a Roth distribution in the current year, can they still avoid the 10% penalty for college costs incurred in the prior year, or do they both have to be done in the same year?
Permalink Submitted by Alan - IRA critic on Thu, 2025-02-06 23:10
Roth regular contributions and conversions over 5 years come out first without tax or penalty. But if the distribution includes conversions under 5 years, the higher education exception eliminates the penalty, and if the distribution includes gains, the penalty but not the tax is eliminated. The penalty exception includes expenses paid in the year of the distribution even if the expenses were incurred in the prior year.
Permalink Submitted by Lee Applebaum on Fri, 2025-02-07 12:14
Alan,
Follow-up. I found something in Ed’s Louder book this morning that seems to conflict. On page 106, paragraph 2, it says “The education expenses must be paid in the same year the distribution was taken. For example, if you withdraw money early from your IRA to cover some old education bills, you’ll be hit with a penalty.”
How does this square with your last sentence? Thanks,
Permalink Submitted by Alan - IRA critic on Fri, 2025-02-07 13:53
I think the issue is when the expenses were actually incurred. The expenses must be paid in the same year as the distribution but can include expenses incurred in a prior year but not yet paid or incurred in the following year but paid in advance (eg. spring semester tuition paid in prior December). In other words, when were the bills actually paid.
But if the expenses were already paid in the prior year, an IRA distribution could not be taken in January to reimburse the prior year payment.
Most educational expenses are paid in advance or concurrently. Another issue is that if expenses are paid by a student loans, an IRA distribution to make the loan payment is not eligible for the exception.
If a parent is taking a Roth distribution to pay for a child’s college costs, most if not all of the distribution is already penalty free, so this exception would likely not be needed, as it would be if the distribution was from a TIRA account.
If the penalty is otherwise due, this exception must be claimed on a 5329.