Why max 401k before 529?

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solarcub
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Why max 401k before 529?

Post by solarcub »

I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
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anon_investor
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Re: Why max 401k before 529?

Post by anon_investor »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
It sounds like you cannot afford to pay for your kids' college and save for your own retirement at the same time.

Personally, I would prioritize retirement savings over paying for my kids' college. They can always look for cheaper school options (start at junior college then transfer to a 4 year school, etc.) or take out student loans. No one is going to lend you money to pay for your retirement.
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Re: Why max 401k before 529?

Post by retired@50 »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
Because student loans exist, and retirement loans do not exist.

It sounds harsh, but it's like the airplane logic, put your own oxygen mask on first, before helping others. By saving for your own retirement, you'll avoid being a financial burden on your children later in life.

Regards,
This is one person's opinion. Nothing more.
aerosurfer
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Re: Why max 401k before 529?

Post by aerosurfer »

Short answer is they can finance college, you cant finance retirement...

Or at the time you reduce contributions to cashflow college.
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neurosphere
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Re: Why max 401k before 529?

Post by neurosphere »

If you pay for college and retirement comes around and you have nothing in your 401k, what will you do then? One can borrow for student loans, but not for college.

Fund the 401k to the max now. When college comes, there are many different options to pay for it. The tax breaks from having contributed the 401k make it easier to pay for future college.

The tax benefits of a 401k can be giant in many cases for many people. The tax benefits of a 529 are meager for many people.

Put another way, if you can't afford to max out a 401k and an IRA each year, you likely can't afford to pay for someone else's education.
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WhiteMaxima
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Re: Why max 401k before 529?

Post by WhiteMaxima »

Max both.
bling
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Re: Why max 401k before 529?

Post by bling »

529s only make sense for people who have a high enough income to max out their 401k and IRA. as others have mentioned, you can borrow for education, but not for retirement.

also, higher education costs are qualified distributions so you can tap into your IRAs without paying a penalty if needed (you'll pay income tax only).
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Re: Why max 401k before 529?

Post by babystep »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
Many have explained and answered your question. If you share more details, maybe you will be able to get some good ideas that will allow you do both.

Btw, if you are contributing maximum to 401k then it is possible that you may get tax refunds, maybe contribute that to 529.

Another interesting approach is using credit cards. https://www.nerdwallet.com/article/cred ... fund-a-529
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Re: Why max 401k before 529?

Post by Soon2BXProgrammer »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
IF your in good shape when the kids go to college, you can stop all retirement contributions besides the match, and cash flow as much as possible.

They can get some loans as well, and IF you end up having a job for a while after they go to school, you can help pay their loans back. (assuming your retirement is in good shape)

you could also take a "return of contribution" from your Roth IRA if you had to to help pay for college.

if things go poorly for you, then by hiding all your assets in retirement accounts and your home equity, the FAFSA will look favorably upon your situation.
Last edited by Soon2BXProgrammer on Sun Jan 03, 2021 4:03 pm, edited 1 time in total.
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Re: Why max 401k before 529?

Post by Grt2bOutdoors »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
How many years until college?
Are you able to save 15-20 percent of your gross income before the employer match? As others have stated, there are no loans for retirement and dependent upon your job security you may want to save more now for retirement in case of job loss where two things occur 1) loss of employment income and 2) inability to save for retirement. The earlier you get money into a retirement plan the more time you have to allow it to compound.

Assuming you can do the above, then yes you can put money in a 529 plan but it likely will be half of $240k, as compounding works there as well.
"One should invest based on their need, ability and willingness to take risk - Larry Swedroe" Asking Portfolio Questions
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anon_investor
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Re: Why max 401k before 529?

Post by anon_investor »

WhiteMaxima wrote: Sun Jan 03, 2021 2:59 pm Max both.
Sounds like that is not feasible for the OP.
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Re: Why max 401k before 529?

Post by Makefile »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
As mentioned, 401(k) plans don't count as assets on a FAFSA and 529 plans do.
In your situation, I might consider 401(k) up to the employer match, then max Roth IRA, then fill up the 401(k), and only then consider 529. If the other college financing recommendations in this thread absolutely don't work for whatever reason, you can take your contributions (but not gains) out of the Roth IRA without income tax or penalty. Looking briefly it seems the gains would incur income tax but an exemption from the 10% penalty for higher education. If you are able to fund college without dipping into it (and Roth instead of a 529 might also make more/better financial aid possible) then you're much better off than an overfunded 529.

IMO a 529 makes more sense for grandparents than parents.
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Re: Why max 401k before 529?

Post by Scott S »

Generous dad, wanting to completely pay for their college!

Just speaking for myself, though: if I hadn't had some skin in the game, it would have been a lot more tempting to goof off and party...
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Re: Why max 401k before 529?

Post by WarAdmiral »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
It's because your children have several decades of earnings ahead of them to pay off student loans and start building their assets. We parents don't have that luxury.
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solarcub
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Re: Why max 401k before 529?

Post by solarcub »

I guess I should clarify, I have a lot in my 401k and IRAs, so I'm not worried about retirement. The problem is, I only put in about $12,000 per year. So I can't just stop doing that and redirect to college, because I will need $30,000 twice, then $60,000 twice, then $30,000 twice, and $12,000 isn't going to cover that.

So let's assume I can save $15,000 per year. Would I be better off:

1) putting that in the 401k, and paying a penalty when I take it out for college, or
2) doing the minimum to get the 401k match, then putting the rest in the 529, so I can spend it without penalty?

I just don't get why "max your 401k first" is the automatic strategy.
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Re: Why max 401k before 529?

Post by stoptothink »

solarcub wrote: Sun Jan 03, 2021 5:03 pm I guess I should clarify, I have a lot in my 401k and IRAs, so I'm not worried about retirement. The problem is, I only put in about $12,000 per year.
If your retirement is essentially taken care of, then it doesn't matter, move on to other financial priorities. In that case, why even ask the question? My guess is that "a lot in my 401k IRAs" isn't yet enough to cover retirement, but I don't want to assume.
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Re: Why max 401k before 529?

Post by KlangFool »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
solarcub,


<<I keep seeing "only do a 529 if you maxed out your 401k and Roth first",>>

It is because 529 is an after-tax contribution. You paid Federal and State Income Taxes for the money you put into the 529.


<<When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?>>


The kids can borrow for a college education. You cannot borrow for retirement. If you need to take money out of 401K for a college education, you cannot afford to pay for a college education.


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Re: Why max 401k before 529?

Post by KlangFool »

solarcub wrote: Sun Jan 03, 2021 5:03 pm I guess I should clarify, I have a lot in my 401k and IRAs, so I'm not worried about retirement. The problem is, I only put in about $12,000 per year. So I can't just stop doing that and redirect to college, because I will need $30,000 twice, then $60,000 twice, then $30,000 twice, and $12,000 isn't going to cover that.

So let's assume I can save $15,000 per year. Would I be better off:

1) putting that in the 401k, and paying a penalty when I take it out for college, or
2) doing the minimum to get the 401k match, then putting the rest in the 529, so I can spend it without penalty?

I just don't get why "max your 401k first" is the automatic strategy.
solarcub,

<<I guess I should clarify, I have a lot in my 401k and IRAs,>>

You can withdraw Roth IRA's contribution at any time without tax and/or penalty.

Let's assume that you can only save 15K per year. When the kids go to college, you can take a student loan for a college education. Then, use the 15K per year to pay off the student loan slowly. Why do you need to do anything about the 401K?

<<I just don't get why "max your 401k first" is the automatic strategy.>>

We enjoy spending our own money instead of paying more taxes by contributing to the 529.


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Re: Why max 401k before 529?

Post by smitcat »

KlangFool wrote: Sun Jan 03, 2021 5:16 pm
solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
solarcub,


<<I keep seeing "only do a 529 if you maxed out your 401k and Roth first",>>

It is because 529 is an after-tax contribution. You paid Federal and State Income Taxes for the money you put into the 529.


<<When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?>>


The kids can borrow for a college education. You cannot borrow for retirement. If you need to take money out of 401K for a college education, you cannot afford to pay for a college education.


KlangFool
I agree with KlangFool completely --- you can also consider paying for college with your after tax Wellington fund if you really want to, no penalties there.
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JoeRetire
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Re: Why max 401k before 529?

Post by JoeRetire »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help?
It helps you save for retirement. As they say "you can't get a loan to pay for retirement".

That said, everyone I know contributes to both, even if they can't max out the retirement accounts.
It's the end of the world as we know it. | It's the end of the world as we know it. | It's the end of the world as we know it. | And I feel fine.
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Re: Why max 401k before 529?

Post by bling »

solarcub wrote: Sun Jan 03, 2021 5:03 pm I guess I should clarify, I have a lot in my 401k and IRAs, so I'm not worried about retirement. The problem is, I only put in about $12,000 per year. So I can't just stop doing that and redirect to college, because I will need $30,000 twice, then $60,000 twice, then $30,000 twice, and $12,000 isn't going to cover that.

So let's assume I can save $15,000 per year. Would I be better off:

1) putting that in the 401k, and paying a penalty when I take it out for college, or
2) doing the minimum to get the 401k match, then putting the rest in the 529, so I can spend it without penalty?

I just don't get why "max your 401k first" is the automatic strategy.
every dollar you contribute to a 529 (which requires after tax money) while you still have deductible space left over (per your example above you have another $4k on the 401k + $6k on an IRA = $10k) is literally lighting your own money on fire.
Soon2BXProgrammer
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Re: Why max 401k before 529?

Post by Soon2BXProgrammer »

solarcub wrote: Sun Jan 03, 2021 5:03 pm I guess I should clarify, I have a lot in my 401k and IRAs, so I'm not worried about retirement. The problem is, I only put in about $12,000 per year. So I can't just stop doing that and redirect to college, because I will need $30,000 twice, then $60,000 twice, then $30,000 twice, and $12,000 isn't going to cover that.
what household gross income do you have? and is it two adults and two students?
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Re: Why max 401k before 529?

Post by Ingen Ko »

I've found the actual benefits of a 529 are pretty limited relative to the benefits of a 401k or IRA. The money goes in after taxes and maybe you get a state tax discount on part of it (in MA it's only on the first $2k which works out to a whopping $50/year). Then it grows tax free but only over a relatively short time period compared to a retirement account (18-22 years if you start when the kid is born) and in the end it counts against you on FAFSA.

Load up your retirement accounts until you have 25-30x your annual expenses. If you get there before your kids go to college then, sure, use a 529. If you get there during college stop contributing to your retirement accounts and pay for as much of school as you can directly and otherwise supplement with loans and other financial aid. If you get there after your kids are done with college then you pay off your PLUS loans or gift them the funds to pay off their personal loans. Or you give them the down payment for a home which might end up being where they'd rather have help, especially if they end up getting a bunch of scholarships and grants due to your low assets on the FAFSA.
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Re: Why max 401k before 529?

Post by teen persuasion »

smitcat wrote: Sun Jan 03, 2021 5:23 pm
I agree with KlangFool completely --- you can also consider paying for college with your after tax Wellington fund if you really want to, no penalties there.
Wait, after tax Wellington fund?

Why wouldn't you transfer that over time into 401k/Roth IRAs/529 accounts to eliminate tax drag?
Soon2BXProgrammer
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Re: Why max 401k before 529?

Post by Soon2BXProgrammer »

teen persuasion wrote: Sun Jan 03, 2021 5:46 pm
smitcat wrote: Sun Jan 03, 2021 5:23 pm
I agree with KlangFool completely --- you can also consider paying for college with your after tax Wellington fund if you really want to, no penalties there.
Wait, after tax Wellington fund?

Why wouldn't you transfer that over time into 401k/Roth IRAs/529 accounts to eliminate tax drag?
plus if you slowly sell off the wellington and put it in the 401k/Roth IRA, you will make your Student Aid Index (new name for Expected Family Contribution) even lower.
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Re: Why max 401k before 529?

Post by mcraepat9 »

retired@50 wrote: Sun Jan 03, 2021 2:45 pm
solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
Because student loans exist, and retirement loans do not exist.

It sounds harsh, but it's like the airplane logic, put your own oxygen mask on first, before helping others. By saving for your own retirement, you'll avoid being a financial burden on your children later in life.

Regards,
+1

FAA has this one right.
Amateur investors are not cool-headed logicians.
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Re: Why max 401k before 529?

Post by pasadena »

mcraepat9 wrote: Sun Jan 03, 2021 5:50 pm
retired@50 wrote: Sun Jan 03, 2021 2:45 pm
solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
Because student loans exist, and retirement loans do not exist.

It sounds harsh, but it's like the airplane logic, put your own oxygen mask on first, before helping others. By saving for your own retirement, you'll avoid being a financial burden on your children later in life.

Regards,
+1

FAA has this one right.
Besides, the kids can participate in the financing by working.

I'll add that when if you don't have enough money for retirement, then it will probably fall onto your kids to help. That's no gift to them either.
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Re: Why max 401k before 529?

Post by an_asker »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
The reason you are seeing that is because most Bogleheads can afford to do that. In your case, the mechanics would be different if - and that is a big IF - you want to pay cash for your kids' college. If you cannot max out 401k and Roth AND have funds left over to put the 529, maybe you shouldn't fund those 529s; instead send the kids to the best university that they can get a full ride from (or have them attend the local state university).
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Re: Why max 401k before 529?

Post by H-Town »

solarcub wrote: Sun Jan 03, 2021 5:03 pm I guess I should clarify, I have a lot in my 401k and IRAs, so I'm not worried about retirement. The problem is, I only put in about $12,000 per year. So I can't just stop doing that and redirect to college, because I will need $30,000 twice, then $60,000 twice, then $30,000 twice, and $12,000 isn't going to cover that.

So let's assume I can save $15,000 per year. Would I be better off:

1) putting that in the 401k, and paying a penalty when I take it out for college, or
2) doing the minimum to get the 401k match, then putting the rest in the 529, so I can spend it without penalty?

I just don't get why "max your 401k first" is the automatic strategy.
How much is a lot? We need more info to help you.
1) How much do you have in 401k?
2) What's your annual expense? How many years do you need to work to reach your retirement goal?
3) How many years will you need to pay for kids college?
4) Do you plan to retire early and do Roth conversion?
5) Does your state have tax deduction for 529 plan?

There are ways to maximize tax benefit if you keep maxing out pre-tax 401k first. Using 529 is not a good idea until you already max out pre-tax 401k and Roth IRA.
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Re: Why max 401k before 529?

Post by sailaway »

In addition to what others have said about loans, retirement accounts do not figure into the family contributions for FAFSA, whereas 529s do. As such, funding your own retirement could result in more non loan aid for your students.
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Re: Why max 401k before 529?

Post by momvesting »

This is one of those "rich people" comments here on Bogleheads that drives me nuts. This should not be a hard and fast rule. At my house, we are five-figure/year Bogleheads with secure and well-funded state pension. We save 15-20% of our salaries in 401ks/IRAs and have been ever since we graduated from college, earn small matches on top of that, save at least 10% more in CDs and liquid savings, pay extra on our mortgage, and drop $310/month in our daughter's 529. Without our 401ks or IRAs we are on track to make 110-120% of our current income in retirement just from pension plus SS. We have a nice mid-six figure balance in 401ks and IRAs and at least ten more years to continue adding to them. But maxing out two 401ks just isn't feasible on under $100k/yr. We make enough that financial aid is nonexistant at state colleges, but fairly generous at the right private universities. Our daughter got in to one of those top-tier private schools and there is no way that we would have been able to just cash flow it on our income. But, ever since she was six months old, we have dropped the max for the state tax deduction (around $4k now, but it has been lower and increased over the years) into a 529 for her. Now we have enough in her 529 plus what we can reasonably cash flow to pay for 100% of her tuition and receive the AOTC and LLC tax credits along the way. We did this by saving $2k-4k/year for the last 18 years. When it was broken down by month, it really was not a lot of money. We feel like we maintained a balance between retirement money and the 529, and it is also possible now for us to pay her tuition without pausing our other savings goals.
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Re: Why max 401k before 529?

Post by Soon2BXProgrammer »

momvesting wrote: Sun Jan 03, 2021 6:24 pm This is one of those "rich people" comments here on Bogleheads that drives me nuts. This should not be a hard and fast rule. At my house, we are five-figure/year Bogleheads with secure and well-funded state pension. We save 15-20% of our salaries in 401ks/IRAs and have been ever since we graduated from college, earn small matches on top of that, save at least 10% more in CDs and liquid savings, pay extra on our mortgage, and drop $310/month in our daughter's 529. Without our 401ks or IRAs we are on track to make 110-120% of our current income in retirement just from pension plus SS. We have a nice mid-six figure balance in 401ks and IRAs and at least ten more years to continue adding to them. But maxing out two 401ks just isn't feasible on under $100k/yr. We make enough that financial aid is nonexistant at state colleges, but fairly generous at the right private universities. Our daughter got in to one of those top-tier private schools and there is no way that we would have been able to just cash flow it on our income. But, ever since she was six months old, we have dropped the max for the state tax deduction (around $4k now, but it has been lower and increased over the years) into a 529 for her. Now we have enough in her 529 plus what we can reasonably cash flow to pay for 100% of her tuition and receive the AOTC and LLC tax credits along the way. We did this by saving $2k-4k/year for the last 18 years. When it was broken down by month, it really was not a lot of money. We feel like we maintained a balance between retirement money and the 529, and it is also possible now for us to pay her tuition without pausing our other savings goals.
It sounds like you fully funded your retirement well enough that saving in a 529 is a reasonable choice.

However, if you had "super funded" your retirement, then cut your investments to only the match while your kid had been in college, you would be pretty close to the same point.
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Re: Why max 401k before 529?

Post by k3vb0t »

You know that if you live long enough, you’ll retire.

You don’t know:
1. Whether your kids will go to college
2. If they go to college, if they’ll get scholarships
3. If they go to college, what the net cost will be (expensive, inexpensive, scholarship, no scholarship)

It would be important to know when you plan to retire (will they still be in high school, college, or graduated), whether or not you can cash flow their schooling (if you are inclined to pay for it), or cash flow their loan payments, etc.

Would also be interested to learn how you’ve gotten more than enough in your retirement accounts without being able to max out each year. Might be better to post in the personal investment’s forum with the template to understand if your assets truly are enough in order to determine best next steps.
smitcat
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Re: Why max 401k before 529?

Post by smitcat »

teen persuasion wrote: Sun Jan 03, 2021 5:46 pm
smitcat wrote: Sun Jan 03, 2021 5:23 pm
I agree with KlangFool completely --- you can also consider paying for college with your after tax Wellington fund if you really want to, no penalties there.
Wait, after tax Wellington fund?

Why wouldn't you transfer that over time into 401k/Roth IRAs/529 accounts to eliminate tax drag?
Agreed ....maybe we will get there and maybe we won't.
First we need to get the OP to confirm whatever he means by having "significant Wellington shares" from his other post. Then we would need just a bit more details by what he means by having "a lot" in 401K. After that it would sure helo if he/she were to be able to share some additional details on basic numbers as others have already asked.
With what we all have to work with so far were pretty much in the dark to really help.
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Re: Why max 401k before 529?

Post by bling »

momvesting wrote: Sun Jan 03, 2021 6:24 pm This is one of those "rich people" comments here on Bogleheads that drives me nuts. This should not be a hard and fast rule. At my house, we are five-figure/year Bogleheads with secure and well-funded state pension. We save 15-20% of our salaries in 401ks/IRAs and have been ever since we graduated from college, earn small matches on top of that, save at least 10% more in CDs and liquid savings, pay extra on our mortgage, and drop $310/month in our daughter's 529. Without our 401ks or IRAs we are on track to make 110-120% of our current income in retirement just from pension plus SS. We have a nice mid-six figure balance in 401ks and IRAs and at least ten more years to continue adding to them. But maxing out two 401ks just isn't feasible on under $100k/yr. We make enough that financial aid is nonexistant at state colleges, but fairly generous at the right private universities. Our daughter got in to one of those top-tier private schools and there is no way that we would have been able to just cash flow it on our income. But, ever since she was six months old, we have dropped the max for the state tax deduction (around $4k now, but it has been lower and increased over the years) into a 529 for her. Now we have enough in her 529 plus what we can reasonably cash flow to pay for 100% of her tuition and receive the AOTC and LLC tax credits along the way. We did this by saving $2k-4k/year for the last 18 years. When it was broken down by month, it really was not a lot of money. We feel like we maintained a balance between retirement money and the 529, and it is also possible now for us to pay her tuition without pausing our other savings goals.
i'm not sure why this thread came off as "rich people" to you. there are a lot of unknowns when it comes to 529s (private vs public, in-state vs out-state, whether your kid attends at all, etc). but there are too many known things today that make it mathematically unfavorable to contribute to a 529 unless you're maxing out everything else.
Last edited by bling on Fri Jan 08, 2021 10:54 am, edited 1 time in total.
WhiteMaxima
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Re: Why max 401k before 529?

Post by WhiteMaxima »

anon_investor wrote: Sun Jan 03, 2021 3:56 pm
WhiteMaxima wrote: Sun Jan 03, 2021 2:59 pm Max both.
Sounds like that is not feasible for the OP.
2/3 401k 1/3 to 529.
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solarcub
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Re: Why max 401k before 529?

Post by solarcub »

bling wrote: Sun Jan 03, 2021 5:27 pm
every dollar you contribute to a 529 (which requires after tax money) while you still have deductible space left over (per your example above you have another $4k on the 401k + $6k on an IRA = $10k) is literally lighting your own money on fire.
This is the part I don't get. Can I make this hypothetical? Let's assume 25% total tax bracket, and I have $10,000 to invest. If I put it in my 401k and then discover later that I need to use it to pay for college, don't I lose the 25% tax savings, plus a 10% penalty, and end up with only $6500? If I had just put that in a 529 I would have $7500 after taxes, and no penalty.
flyfishers83
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Re: Why max 401k before 529?

Post by flyfishers83 »

I think the general answer is that if you feel the need to withdraw from your 401k to pay for your child’s college, you can’t afford to pay for your child’s college. For most people, saving for retirement to the exclusion of college saving isnt just the optimal strategy, it’s the only strategy. You need to run the numbers with multiple scenarios.
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Re: Why max 401k before 529?

Post by Soon2BXProgrammer »

solarcub wrote: Sun Jan 03, 2021 9:49 pm
bling wrote: Sun Jan 03, 2021 5:27 pm
every dollar you contribute to a 529 (which requires after tax money) while you still have deductible space left over (per your example above you have another $4k on the 401k + $6k on an IRA = $10k) is literally lighting your own money on fire.
This is the part I don't get. Can I make this hypothetical? Let's assume 25% total tax bracket, and I have $10,000 to invest. If I put it in my 401k and then discover later that I need to use it to pay for college, don't I lose the 25% tax savings, plus a 10% penalty, and end up with only $6500? If I had just put that in a 529 I would have $7500 after taxes, and no penalty.
except you wouldn't take the pretax 401k dollars, you would take a "return of contribution" from your roth IRA.

if your married, you could put in 12k per year into you and your spouses Roth IRA, that contribution amount can be returned without taxes and without penalties, but you keep the growth of it in the Roth.

12k * 18 years = 216k of contributions that you could withdrawal tax and penalty free.

this is why its super important that we understand your whole picture. because with out understanding your income/household filing status, etc. we can't make good recommendation.
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Re: Why max 401k before 529?

Post by H-Town »

solarcub wrote: Sun Jan 03, 2021 9:49 pm
bling wrote: Sun Jan 03, 2021 5:27 pm
every dollar you contribute to a 529 (which requires after tax money) while you still have deductible space left over (per your example above you have another $4k on the 401k + $6k on an IRA = $10k) is literally lighting your own money on fire.
This is the part I don't get. Can I make this hypothetical? Let's assume 25% total tax bracket, and I have $10,000 to invest. If I put it in my 401k and then discover later that I need to use it to pay for college, don't I lose the 25% tax savings, plus a 10% penalty, and end up with only $6500? If I had just put that in a 529 I would have $7500 after taxes, and no penalty.
You should not withdraw from 401k to pay your kids tuition. You should consider cashflow the tuition (the money you would otherwise put in 401k in the future). By that time, you already had the pre-tax 401k grow with compound interest. Roth IRA is also an option. You should max out Roth IRA before considering 529.
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Re: Why max 401k before 529?

Post by willthrill81 »

I'm surprised that no one has mentioned this, but I don't think that it's wise for someone who cannot max out a 401(k) and save for kids' college expenses on top of that to spend $240k on funding the kids' college.
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Re: Why max 401k before 529?

Post by bling »

solarcub wrote: Sun Jan 03, 2021 9:49 pm
bling wrote: Sun Jan 03, 2021 5:27 pm
every dollar you contribute to a 529 (which requires after tax money) while you still have deductible space left over (per your example above you have another $4k on the 401k + $6k on an IRA = $10k) is literally lighting your own money on fire.
This is the part I don't get. Can I make this hypothetical? Let's assume 25% total tax bracket, and I have $10,000 to invest. If I put it in my 401k and then discover later that I need to use it to pay for college, don't I lose the 25% tax savings, plus a 10% penalty, and end up with only $6500? If I had just put that in a 529 I would have $7500 after taxes, and no penalty.
you don't lose tax savings. you deferred them. when you take it out, it is taxed as income, which could be higher or lower than 25%.

also, there is no penalty if distributed from an IRA. once your kids are in their teenage years you'll know whether you need to roll over anything or not.
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Re: Why max 401k before 529?

Post by WhiteMaxima »

I am glad to start my kids when they were born. Start early and I stopped contrubuting earlier and maxi my 401k , Roth , HSA. The 529 has grow so much that my life is much easy now. Now my 1st kid is almost done with her college and still have a lot left for my 2nd. I did Mega Roth for a couple of years since my employer start offering it. 529 is also a estate planning tool to pass your wealth to future generation.
bling
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Re: Why max 401k before 529?

Post by bling »

willthrill81 wrote: Sun Jan 03, 2021 10:11 pm I'm surprised that no one has mentioned this, but I don't think that it's wise for someone who cannot max out a 401(k) and save for kids' college expenses on top of that to spend $240k on funding the kids' college.
i guess it's kind of implied with the general advice of maxing out your 401k first.

the 529 is kind of a weird vehicle. it only makes sense for people with a lot of income. but if you already have a lot of income you don't really need a 529.
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Re: Why max 401k before 529?

Post by Brianmcg321 »

solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
Why would you take money out of your 401k? Never take money out of retirement accounts except for retirement. NEVER.

Maybe they need to go to community college for a couple of years.

Do you want to depend on your kids for your retirement?

Do your kids work?
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slow n steady
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Re: Why max 401k before 529?

Post by slow n steady »

solarcub wrote: Sun Jan 03, 2021 9:49 pm
bling wrote: Sun Jan 03, 2021 5:27 pm
every dollar you contribute to a 529 (which requires after tax money) while you still have deductible space left over (per your example above you have another $4k on the 401k + $6k on an IRA = $10k) is literally lighting your own money on fire.
This is the part I don't get. Can I make this hypothetical? Let's assume 25% total tax bracket, and I have $10,000 to invest. If I put it in my 401k and then discover later that I need to use it to pay for college, don't I lose the 25% tax savings, plus a 10% penalty, and end up with only $6500? If I had just put that in a 529 I would have $7500 after taxes, and no penalty.

You get it. Saving in a 529 can make sense in your situation. My five person household makes less than 6 figures, but we saved a lot early on so our retirements are on track. I look ahead at college and possibly private high school and it makes sense to put money in a 529 even I don't max out retirement accounts. I will have a decent pension. It's really just a cashflow issue during the college years. Adding to a 529 alleviates that issue and putting money in a retirement does nothing for you if you're doing well enough there already.

Almost no one answered your question in a convincing way because you didn't really provide enough details to really say if the 529 is right for you now.

Good luck!
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Re: Why max 401k before 529?

Post by willthrill81 »

Brianmcg321 wrote: Sun Jan 03, 2021 11:18 pm
solarcub wrote: Sun Jan 03, 2021 2:41 pm I read a lot of the 529 threads, and I keep seeing "only do a 529 if you maxed out your 401k and Roth first", but I don't get it. If I max out my 401k and have nothing left over to put in a 529, how does that help? When college comes around (2 kids), I will need roughly 8 x $30,000, and if I take that out of my 401k, don't I have to pay penalties on that?
Why would you take money out of your 401k? Never take money out of retirement accounts except for retirement. NEVER.
For most people, this is pretty reasonable advice, but keep in mind that some posters here have been 'egregious oversavers' for a long time and look to reduce RMDs later on; see this current thread for an example. Funding kids' college using IRA funds (subject to taxation as regular income but no 10% penalty) can be an effective way to 'kill two birds with one stone' for such people.
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Re: Why max 401k before 529?

Post by KlangFool »

solarcub wrote: Sun Jan 03, 2021 9:49 pm
bling wrote: Sun Jan 03, 2021 5:27 pm
every dollar you contribute to a 529 (which requires after tax money) while you still have deductible space left over (per your example above you have another $4k on the 401k + $6k on an IRA = $10k) is literally lighting your own money on fire.
This is the part I don't get. Can I make this hypothetical? Let's assume 25% total tax bracket, and I have $10,000 to invest. If I put it in my 401k and then discover later that I need to use it to pay for college, don't I lose the 25% tax savings, plus a 10% penalty, and end up with only $6500? If I had just put that in a 529 I would have $7500 after taxes, and no penalty.
solarcub,

If you need to pull money out of the 401K, it means that you are unemployed. Aka, you cannot afford to pay for a college education. Taking a student loan would be the right decision.


If you are employed, why do you need to take money out of the 401K? You can pay for the college education using your Roth IRA and your annual savings. Any gap can be temporarily bridged by the student loan to be paid off by your annual saving later.

Why do you enjoy paying more taxes instead of spending your own money by contributing to the 529?

I do not save for a college education. I paid for my kids' college education out of my annual savings.

It is very simple.

If you do not save enough to max up your 401K, you cannot afford to pay for a college education. Why pay more taxes and put the money into the 529?


If you can max up the 401K and Roth IRAs and nothing more, you have the annual savings plus Roth IRAs to pay for the college education. Why do you need to save for a college education via the 529?


529 is for the very rich. Those that can max up all tax-advantaged accounts and have extra savings.

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Soon2BXProgrammer
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Re: Why max 401k before 529?

Post by Soon2BXProgrammer »

KlangFool wrote: Sun Jan 03, 2021 11:40 pm
If you need to pull money out of the 401K, it means that you are unemployed. Aka, you cannot afford to pay for a college education. Taking a student loan would be the right decision.
If unemployed and follow the guidance of putting all the money into qualified retirement accounts, the OP would probably qualify for some need based aid, which would reduce the need for loans, but I do agree loans should be used to top off that aid.
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solarcub
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Re: Why max 401k before 529?

Post by solarcub »

Ok, thanks for the responses, everybody. Here is my current thinking:

First of all, based on my current age and 401k/IRA balances, I think I have enough to retire in 10 years or so. I'm not worried about putting in the maximum possible amount to my 401k. From that starting point, it seems like

1) Spending 401k money on college would be bad, because of the penalty.
2) Spending Roth contributions on college is ok, but not the earnings.

Based on this, I think we will max out our Roth IRAs every year. We will do this by moving some money from the Wellington, (wow, you guys really did your homework on that one), to reduce taxes.

I will keep getting the full employer match on the 401k, but probably not max it out until we get to around $100k in the 529. This is 1/3 of my very rough estimate of college costs for 2 kids, so I doubt it will be too much. We live in CO, so we get a state tax break of 5% on the contributions.

Maybe this is not optimal, but with so many unknowns, it's a compromise that works for me.
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