Using 401K or rollover IRA for FAFSA education expenses - tax implications?

Yes, 401K withdrawals for qualified education expenses are exempt from the 10% early withdrawal penalty, but you'll still pay regular income tax on the distribution. For rollover IRAs, the same rules apply as long as it's not a Roth - you avoid the penalty but pay income tax. Regarding future FAFSA implications, this is tricky. Any distribution will count as income on the FAFSA for the year after you take it. The current FAFSA uses income from two years prior (prior-prior year), so timing matters. I helped my son by taking one large distribution to cover multiple years and paying the school directly. This contained the income hit to a single FAFSA cycle. Talk to your tax advisor though - there are annual limits to qualified expenses per student.

the 10% penelty isn't the big problem its the INCOME that kills you on fafsa!!! when i took $30k from my 401k for my kid it showed as income and we didnt get ANY aid the next year. total disaster. wish someone warned me

I work with financial aid applicants, and this is a common dilemma. Here's what you need to know: 1. Both 401K and rollover traditional IRAs follow the same rules for education expense withdrawals - no 10% penalty, but still taxed as income. 2. For FAFSA impact, you need to consider the prior-prior year income reporting. For example, for the 2025-2026 school year, FAFSA will use your 2023 tax information. 3. If you withdraw a large sum in one year, it could significantly impact your Student Aid Index (SAI) calculation for that specific FAFSA cycle. Some families withdraw enough for multiple years at once and deal with one bad aid year. Others appeal to financial aid offices explaining the one-time income increase. Either strategy has pros and cons depending on your specific situation.

i did this!!!! took out $42,000 from my 401k sophomore year for my son's remaining college. had to pay taxes but no penalty. yes it messed up fafsa but only for 1 year and i knew aid wasnt great anyway. better than loans IMO

Have you considered taking a 401K loan instead of a withdrawal? With a 401K loan, you're borrowing from yourself, there's no tax hit, and it doesn't show up as income on FAFSA forms. You do have to pay it back with interest (to yourself), but it won't impact your daughter's aid eligibility the way a distribution would. I personally couldn't get through to anyone at Federal Student Aid to ask about how distributions would affect my son's aid package until I used Claimyr (claimyr.com). Their service got me connected to an actual FSA agent in about 10 minutes who explained all the implications. They have a video demo at https://youtu.be/TbC8dZQWYNQ that shows how it works. The agent was really helpful in explaining how retirement distributions impact SAI calculations.

just be careful with timing!!!!! we withdrew from 401k junior year and it showed on fasfa senior year and we lost $9,000 in grants they just disappeared!!! wish we took it all out freshman year instead could have saved so much $$$$$

Listen, I'm dealing with this exact same thing right now. Be SUPER careful not to mess up your income for graduate school FAFSA. My daughter lost ALL her grant money for med school because I took a retirement distribution for her undergrad senior year. No one told me it would affect grad school aid! The whole system is designed to punish parents who try to help their kids without going into loan debt.

One strategy I've seen work: take the distribution in December of freshman year to pay for spring semester freshman year + sophomore year. Then take another distribution in January of junior year for the rest. This spaces out the income hits to minimize FAFSA impact while still avoiding having to take distributions every single year.

As someone who's been through this process, I'd strongly recommend exploring all options before touching retirement funds. The FAFSA income hit is real and can be devastating for multiple years of aid eligibility. Have you looked into home equity loans or lines of credit? The interest might be tax-deductible and won't show as income on FAFSA. Also consider whether your daughter could start at a community college for gen eds to reduce overall costs. If you do decide on retirement withdrawals, definitely talk to a tax professional about the timing strategy others mentioned. The prior-prior year income rule means you need to be very strategic about WHEN you take distributions to minimize the FAFSA impact across all four years. One last thing - make sure you understand your 401k plan's specific rules. Some plans have hardship withdrawal provisions for education that might have different requirements than regular distributions.

For FAFSA purposes, hardship withdrawals are treated exactly the same as regular distributions - they still count as income in the year you take them. The IRS distinction between hardship and regular withdrawals doesn't carry over to financial aid calculations. Since your daughter is pre-med, I'd really encourage exploring that home equity option first. Medical school financial aid is already limited, and having a high income year on your FAFSA could be devastating for both undergrad and grad school aid. Another option to consider: some families use a combination approach - take a smaller retirement distribution for year one while simultaneously applying for parent PLUS loans for the remaining years. This spreads the financial impact and gives you more flexibility to adjust based on how aid packages work out each year. Whatever you decide, document everything carefully for tax purposes and consider working with both a tax professional and a fee-only financial planner who understands education funding strategies.

I actually worked with a fee-only financial planner who specializes in college funding strategies and it was absolutely worth every penny! Cost me about $800 for a comprehensive analysis, but they helped me map out a 4-year funding strategy that saved us probably $15,000+ in lost aid. They ran scenarios showing exactly how different withdrawal timing would impact our FAFSA over all four years, plus factored in the tax implications. What really opened my eyes was how they showed that taking retirement distributions in certain years could push us into higher tax brackets AND kill our aid eligibility simultaneously - a double hit I never would have calculated on my own. The planner also identified some strategies I'd never heard of, like using a 529 plan owned by a grandparent (if that's an option for you) since those distributions don't count as parent or student income on FAFSA after recent rule changes. Given that your daughter is pre-med and you're looking at potentially 8+ years of education costs, I'd say the planning fee is a small investment compared to the potential financial mistakes you could make without professional guidance. Just make sure you find someone who really understands both the tax code and FAFSA rules - they're very different beasts!

I went through this exact decision last year and ended up doing a combination of strategies. After talking to a tax advisor, I took a smaller distribution from my 401K in December of my son's freshman year (about $15K) to cover spring semester, then used a home equity line of credit for the remaining three years. The key insight my advisor gave me was that retirement distributions not only count as income for FAFSA but can also push you into a higher tax bracket, creating a double penalty. By keeping the retirement withdrawal smaller and spreading costs across different funding sources, we minimized both the FAFSA impact and the tax hit. One thing I wish I'd known earlier: if you do take retirement distributions, make sure to pay estimated quarterly taxes on that income. I got hit with underpayment penalties because I didn't realize how much extra tax I'd owe. Also, keep detailed records of all education expenses - the IRS can be picky about what qualifies for the penalty exemption. The home equity route has worked well for us so far. The interest rate is reasonable, the interest is tax-deductible, and most importantly, it doesn't show up as income on FAFSA forms. Just make sure you have a solid plan for paying it back!

I've been lurking on this thread because I'm in a very similar situation with my daughter starting college in the fall. The experiences everyone has shared are incredibly eye-opening - especially the warnings about how retirement distributions can completely destroy aid eligibility for multiple years. One thing I'm curious about that hasn't been mentioned much: has anyone dealt with the American Opportunity Tax Credit while also taking retirement distributions for education? I'm wondering if there are any interactions between claiming that credit and using 401K funds for qualified education expenses, or if you can potentially double-dip on tax benefits. Also, for those who went the home equity route, did you find that having that debt affected your FAFSA calculations at all? I know FAFSA doesn't count home equity as an asset, but I'm not sure if home equity debt gets factored in anywhere. The consensus here seems to be that professional planning is essential given all the moving pieces. I think I'm convinced to invest in a fee-only planner rather than try to navigate this maze myself. Better to pay for advice upfront than make expensive mistakes that could cost us tens of thousands in lost aid over four (or eight) years. Thanks to everyone for sharing their real-world experiences - this thread has been more helpful than anything I've gotten from our school's financial aid office!