Can I roll my 401(k) to a Roth IRA and use the money for school?

Question

I am going to be going back to school in the Fall starting in August. I will not be working when I attend Nursing school for two years. I need to know the best way to handle my 401(k) and what I should do with it.

I worked for Verizon for 3 years and have just under 20k in my 401(k). I was planning on moving that into a Roth IRA to help pay for school. I have already paid off two student loans, have one that has a balance of approx 3000 and another with a balance of 1,200 which I will put into deferment, but I don't want to take out more student loans if I can help it.

I was told if I moved my 401(k) into a Roth IRA that school purposes is one reasons you can withdraw money without having to pay a tax. My first question is 1) is there any hidden tax or fee at all for withdrawing money from a Roth IRA for educational purposes?

2) I know that tuition, books and fees are covered for educational purposes. Can I take out of my Roth IRA for living expenses while I'm attending school? Rent, gas, food, etc...

3) I've read that whatever I withdraw will be considered as income the next year, and I would like to be able to apply for financial aid, but if I take out a larger number, the more I take out the more I make minimizing my chances of receiving a grant for school. Is this correct?

4) with my 401(k) being smaller, would it just be better to go ahead and cash the whole thing and just pay the tax and use it for whatever I need it for? What is the tax if I just decide to cash the whole thing in?

5) what I make now and what I made last year is a drastic difference. I made 48,000 last year and I'm not even working a full year this year but my income even if I worked a full year this year would be 25,000. Is there something I can do to help myself get grants, etc...if I will no longer be working and need financial aid?

Answer 1

I was told if I moved my 401k into a Roth IRA that school purposes is one reasons you can withdraw money without having to pay a tax.

Incorrect. You will need to pay tax on the amount converted, since a 401(k) is pre-tax and a Roth IRA is after-tax. It will be added to your regular income, so you will pay tax at your marginal tax rate.

is there any hidden tax or fee at all for withdrawing money from a Roth IRA for educational purposes?

You still will need to pay the tax on the amount converted, but you'll avoid the 10% penalty for early withdrawal.

I know that tuition, books and fees are covered for educational purposes. Can I take out of my Roth IRA for living expenses while I'm attending school? Rent, gas, food, etc...

Room and board, yes, so long as you are half-time, but not gas/food Possibly only room and board for staying on-campus, but I'm not certain, although I doubt you could call your normal house payment "education expense"

with my 401k being smaller, would it just be better to go ahead and cash the whole thing and just pay the tax and use it for whatever I need it for? What is the tax if I just decide to cash the whole thing in?

You pay your marginal tax rate PLUS a 10% penalty for early withdrawal. So no, this is probably not a wise move financially unless you're on the verge of bankruptcy or foreclosure (where distress costs are much higher then the 10% penalty)

I can't answer the other questions regarding grants; I would talk to the financial aid department at your school.

Bottom line, transferring your 401(k) is very likely a bad idea unless you can afford to pay the tax in cash (meaning without borrowing). My advice would be to leave your 401(k) alone (it's meant for retirement not for school or living expenses)

Ideally, you should pay for as much as you can out of cash flow, and don't take out more student loans. That may mean taking fewer classes, getting another part time job, finding a different (cheaper) school, applying for more grants and scholarships, etc. I would not in ANY circumstance cash out your 401(k) to pay for school. You'll be much worse off in the long run, and there are much cheaper ways to get money.