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Don’t Make The Mistake Of Using Retirement Money To Pay For College

Sharon Epperson, Using retirement money to pay for college

With Sharon Epperson, Senior Personal Finance Correspondent, CNBC

Dilemma: Paying For Kids College

Parents have long faced the financial challenge of competing claims between their children’s college education and their own retirement savings. What’s new is that in the past decade or two the costs of college have inflated at near exponential levels. The consequences of this inflation are at least twofold: students are taking on massive debt on the one hand, and parent’s retirement savings are being depleted on the other. Sharon Epperson, Senior Personal Finance Correspondent at CNBC, joins Steve to talk about this dilemma, trying to find a balance between parent’s and children’s contributions to the cost of college, strategies for retirement saving, and reigning in household expenses.

Using Retirement Money To Pay For College: Don’t Do It

While many parents pull money out of their 401k, IRA or other retirement savings account to reduce the burden of college loans on their children, Sharon is emphatic that this is a boundary that should not be crossed. While the instinct to shelter your kids from what might be very heavy debt (the average is now $29,000) is natural, it should never be done at the expense of your own retirement funds, which cannot be easily replenished.

There is no such thing as a “retirement loan.”

Steve comments that he often advises parents dealing with this issue that their children generally have a much longer timeline to pay back their college loans than the parents do to refill their retirement fund coffers.

Lessons From The Struggle To Pay For College

Sharon concurs, noting that parents don’t have as long to recover from a financial setback as children do and, therefore, need ample savings.  She also believes that there are some potentially very valuable lessons that parents can take from this situation and impart to their children. It’s important for parents to stress to their children that they too had to work and save to help pay for their own education (albeit far less in dollar terms), work extra hard for scholarship money, and perhaps even take on loans as well. One takeaway is that sacrifice is often required for achieving your most important goals, another that with the right attitude and understanding, loans can be a valuable tool, not just for what they can buy but for the self-discipline they require to pay down. The realization that they are about to leave the nest and that Mom & Dad won’t be paying for everything can ultimately be empowering, especially when contrasted against students who are sheltered from that realization.

The Four-legged Stool Of Paying For College

Steve proposes a four-legged stool metaphor to explain how college can be funded: one leg would be student loans, another leg contributions from parents (whether from income they don’t need or a college fund they’ve been investing in), and, as a third leg, the savings that the student has squirreled away from their own jobs. Sharon chimes in with the fourth leg: “free money” meaning essentially scholarship funds, a kind of holy grail in the college financing game. As difficult to believe as it may seem, the hunt for scholarships can begin at a young age while parents are supporting a variety of extracurricular activities. If a child excels in one or more areas, these could become building blocks later on that could eventually support a scholarship application. She notes that parents can start learning about specific scholarships and the criteria they’re based on through the website fastweb.com. They may also be able to research scholarships sponsored by various organizations, perhaps a trade union you belong to, or local businesses, etc. Sharon argues that high school or even junior high is not too early to start crafting a resume for your children. This will get you thinking about the valuable attributes your child has that may make them a strong candidate for certain scholarships.

Pay Yourself First

Returning to the subject of balancing the competing priorities of college bills and retirement savings, Sharon reiterates that parents must “pay themselves first,” meaning to maintain their discipline with regard to regular contributions into a 401k or other retirement account. As she puts it,

“Remember you and your child can always borrow for college, but you can’t borrow for retirement, so take care of yourself first.”

Steve gives the same advice to his clients and adds that they often tell him that they have a hard time earmarking the extra cash needed to maintain a steady stream of contributions. He also notes that he often hears that people are not paying down expensive credit card debt or other costly loans. Ideally, you can do both, but paying off debt which carries a much higher interest rate than what you will be able to offset through your retirement investments should come first. It may be advisable to continue depositing the amount of money in your retirement account that your employer has pledged to match (because the rate of return on that money is doubled by the matching funds) while you pay off expensive debts.

Trimming Expenses to Build Emergency Fund, Retirement Savings

A further commitment that parents—and, really, everyone else— also should make is to set up an emergency fund to pay for an expensive hospital visit, home or car repair, or other unforeseen events. The rest of the conversation revolves around ways of paring back expenses in order to establish an emergency fund and start to make headway on other financial goals. A good starting principle might be that credit cards should be used as a tool, not as a means to fund consumption. Limit dining out and be more attentive to grocery prices, something that has become easier to do on the internet. Other ideas bandied about include raising the deductible on your car insurance, unsubscribing from cable television, and quitting smoking. Any of these ideas can apply to an emergency fund or those difficult to scrounge up dollars earmarked for a retirement account that we just mentioned.

Disclosure: The opinions expressed are those of the interviewee and not necessarily United Capital.  Interviewee is not a representative of United Capital. Investing involves risk and investors should carefully consider their own investment objectives and never rely on any single chart, graph or marketing piece to make decisions.  Content provided is intended for informational purposes only, is not a recommendation to buy or sell any securities, and should not be considered tax, legal, investment advice. Please contact your tax, legal, financial professional with questions about your specific needs and circumstances.  The information contained herein was obtained from sources believed to be reliable, however their accuracy and completeness cannot be guaranteed. All data are driven from publicly available information and has not been independently verified by United Capital.

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Steve Pomeranz:  Many parents are struggling to figure out how they’ll pay for rising college costs, and some are willing to dip into their retirement savings and delay retirement to do so, but many may not realize that in doing so, they may be jeopardizing their own financial security. Let’s explore the subject with Sharon Epperson from CNBC. Hey, Sharon, welcome back.

Sharon Epperson: Good to be on the program.

Steve Pomeranz: It seems that some parents are worrying more about the impact of long-term student debt on their own children than they are on their own retirement.  Is this a reasonable strategy for those who are trying to apportion out their savings for the future?

Sharon Epperson: Well, it certainly is reasonable for parents to be very concerned about their children having to take out student loans, and when you look at the average student loan balance, you know, $29,000, that’s a lot of money that you don’t want to have your child saddled with for many years to come.  It’s understandable that parents want to do as much as they can to alleviate that burden.  The problem is, where do they go to find the money to help their child pay for it, and tapping your 401K or your retirement savings is not the place to go.

Steve Pomeranz:  The idea, I guess, the way I look at it and counsel clients, is your children have a much longer lifespan and much more time to pay this off than you do, so it makes sense to allow them to shoulder a good deal of that debt.  Do you think that fits in with what you’re saying?

Sharon Epperson: That absolutely fits in with what I’m saying.  It made complete sense, and we know that college costs have been rising and exponentially, in some cases, compared to when we were in school, but the reality is, many parents worked or took out loans or went to school and then took off some time, and then went back to school.  They did many things to get their education, and I think that parents also have to be mindful that those are actually great lessons to teach your child— that it doesn’t come easily, that you have to work hard for your education, and that in some cases, you may have to take out loans, but you have to also be disciplined enough to pay those back. So I think that could be a very important financial lesson to teach your child and letting them know that everything will always be paid for just like it was when they were 10 years old when they’re going into their 30s, is not necessarily the financial lesson that you want to leave with them.

Steve Pomeranz:  Absolutely. You know, we look at it as a four-legged stool.  One leg may be the loans that we’re talking about, another would be helping out the kids through parents working and their current income and putting some money aside for that.  The third would be the children working for themselves, you know.

Sharon Epperson: And the other one is we’re all hoping for, right, free money.  Free money, please, and I think that’s something that parents and their children need to start looking at very early, and thinking about very early, for all the money the parents spend on soccer, on violin lessons, ice skating, these things that we’re hoping that are going to make our children more well-rounded, some of them are really excelling at it, so there are opportunities perhaps for scholarships and to start looking early at what really are the criteria to get some of those scholarships, is something that can be done very easily.  Going to a website like Fast Web, which has thousands of different types of scholarships that are listed, looking at the organizations that you belong to locally, and what scholarships that are given out by some of those organization.

Even some big box stores…you know, Lowes may have a scholarship or there may be a scholarship with another organization that you’re a part of.  A trade organization or some such, so it’s important to start looking at those things early and having your child kind of develop a resume.  It sounds kind of crazy but it’s not, early in high school, maybe even junior high school, to try to think about what some of their attributes are that will make them a great candidate for a scholarship.

Steve Pomeranz: That’s very well said.  My guest is Sharon Epperson from CNBC.  We’re talking about striking that balance to help your kids go through college and pay those ever higher college bills.  Let’s look at some more steps towards getting to this balance.  Number 1, the first dollars that you save should go into your 401K.  Now, we’re talking about the parents, of course.  Or, workplace retirement plan.  Tell us about that.

Sharon Epperson: Well, I think it’s important that you do put yourself first.  We always say, and I’m sure you tell your clients as well, to pay yourself first, and it’s equally important when you’re trying to figure out how to prioritize your savings between retirement and college.  You still need to do that because as you mentioned at the top of this interview, you do not have as long to actually recover from a financial setback as your child will have, so you want to make sure that you have substantial, at least ample, savings for your retirement, and the best way to do that, put it on autopilot.

Make sure you’re contributing at least up into your company’s matching contribution if they offer one for your 401K, and if you do not have a 401K at work if you’re not working or you’re self-employed, and if you qualify, a Roth IRA is a great place to go.  Some of the opportunities that self-employed folks out there to save for retirement are even better than if you’re working and you got a 401K, so look into those options as well, but make sure you’re putting your first dollars that you’re saving into a retirement account for yourself.

Steve Pomeranz: You know, for a lot of people, it’s really just hard to find the extra dollars to save, and this idea of paying yourself first is vitally important.  Really, what’s at work here is getting the habit, or the discipline, of putting money away on a regular basis, even if it starts at a small amount.  It’s really this idea of being able to accumulate wealth, and then eventually you can get it invested and over time that wealth can work on its own to build more wealth for you, but it’s getting started, it’s finding those extra dollars, in order to do that.  It’s a hard thing for many people to do, but it is vitally important.

Also, this idea that, if you’re saving, and yet you have a lot of money on credit card debt, and you’re paying high-interest rates doesn’t make sense either.

Sharon Epperson: That doesn’t make any sense.  You really want to pay off those credit cards and pay off any high-interest debt that you have, because you want your investments to be making as much money as it can, but the reality is the interest rate on your credit card on average is probably about 13 percent.  It’s unlikely that you’re making that kind of return in the market, so you want to make sure that while you are putting some money away for your retirement, that you’re also at the same time, paying off that credit card debt.

That might mean that you’re not putting in the maximum amount, again I still think it’s important to do it at least until the company’s matching contribution, but you may not be able to put in the maximum amount that you’re eligible for into the 401K or into an IRA, but at least put in something, and then also, at the same time, start paying down that high interest debt.

Steve Pomeranz: So many people are so attuned and so good at finding bargains and not paying list price, finding the best deals, but then they have to turn around and buy those things on their credit card and pay 13 percent, so, really what’s the point of going out there and spending all your efforts to get things cheaply, if actually, you’re just paying it back to the credit card company.  It doesn’t make sense; so, really, use your credit card as a tool, not as a way for you to finance your consumption.

What about an emergency fund?  People have got to have emergency funds.

Sharon Epperson: Well, and then the question comes, how do I?  You just told me to pay off my credit card, and to save for my retirement, how am I supposed to come up with money for an emergency fund?  There are ways that you can cut expenses.  I remember interviewing a couple in Florida a few years ago, and they were aware that one of them was going to lose their job soon, and they were saying, but you know, we’d still love to take you out to dinner and talk about whatever we were talking about at the time.  I thought, now you know you’re about to be laid off, that’s the last thing we need to do, is go out to dinner.  The last thing you need to do is spend money eating out.

There are ways that you can cut out, that’s an example where some people may say, “Well, we don’t eat out, so where are we supposed to save?” Maybe it’s waiving the deductible on your auto insurance or your car insurance, so you have a little bit more income, cash coming in that you can put toward your emergency fund.  Building up your emergency fund so at least it’s enough to cover the deductibles on these items.  There are ways that you have to think about, in terms of just the little basics.  What do you really need to have money for this month, and what’s kind of the extra, and let all those extras go by the wayside, and put that money into savings to build up that emergency fund.  That’s very important.

Steve Pomeranz: I’m speaking with Sharon Epperson from CNBC.  To hear this interview again, and to join our conversation, you can do so at onthemoneyradio.org.  You know, there are still a lot of people out there that smoke and cigarettes are really expensive.  6 bucks a pack, I mean, I think it’s $10 a pack in New York or something like that.  I mean, that adds up, that’s a tremendous amount of money that adds up, so I realize how difficult it is to quit.  I used to be a smoker many, many years ago.  It’s hard, but, you know, you can get over it, and it can really put a lot of dollars in your pocket.

Sharon Epperson: Whatever that big expense is, I mean a lot of folks now too if you have tweens or teens like I do.  They don’t watch television that much, so why do I need a full- on cable or internet plan if most of the watching is on a device?  Whether it’s their iPad or by phone or something else, so there are ways to think about that’s another more expensive mobile plan perhaps than you had before but in place of maybe a cable TV plan that you don’t really need.  There are just different ways to really think about how you are using what you’re spending your money on.  You know, do you really need to be spending your money that particular way.

Your idea of going and finding bargains, I know a lot of people are great at that, and even if you’re not someone who goes through and counts coupons and does things like that, sites like retailmenot.com, shopping for groceries online, so you look at the unit price and you’re looking for what’s cheapest based on the unit price, not even necessarily the sales that are there.  Yeah, you pay for a delivery if you’re in a big city and you have this opportunity to have groceries delivered.  You might have a delivery fee, but the overall savings, if you’re able to kind of look at all of the offerings you have in terms of groceries and pick the ones that really are the cheapest and fit what you need for that week, I’ve found that a great way to save on groceries which are a necessity, but maybe doesn’t need to be expensive as what I’ve spent in the past.

Steve Pomeranz:  Yeah.  You know, it’s not easy, but it’s just a well thought through life.  It’s like, pull your financial self together, start thinking broadly about these things, instead of just operating on momentum or inertia and just doing things because it’s the way you’ve always done them.  There’s one quote that I like that you wrote, “Remember you and your child can always borrow for college, but you can’t borrow for retirement, so take care of yourself first.” Sharon Epperson from CNBC.  As always, very informative, and I thank you very much for joining us.

Sharon Epperson: My pleasure.  Thanks for having me.