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Should I Increase My 401K Contribution To Get More Financial Aid?

401K Tax Strategies for College
by Tom Bottorf

Question:

Our son is a junior in high school. I’ve heard that lowering the Adjusted Gross Income we declare on the FAFSA form should help our financial aid eligibility when he begins college. Is increasing my 401K contribution therefore a good strategy for getting more financial aid?

Answer:

NO! In fact increasing your 401K contributions will not affect your eligibility one cent! The “strategy” of maxing out a 401K contribution in order to optimize financial aid is a misconception shared by many.

Now it’s true that your 401K contributions are indeed tax-deferred and will reduce your Adjusted Gross Income (AGI) dollar-for-dollar. But the FAFSA form asks about your “payments to tax-deferred pension and savings plans”. This amount is an “add-back” to your AGI on the FAFSA form.

While 401K contributions may provide a good tax strategy and savings plan for retirement, they offer nothing to improve your financial aid eligibility because of the FAFSA methodology.


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  • DE

    So you can’t hide 401K contributions from the income part of the equation, but it does impact the asset part doesn’t it? If instead of putting $1000 in my 401K, I put it in my savings account, then it is going to show up in both the income and asset part of the equation isn’t it? So there IS some benefit to funneling dollars into retirement accounts…?

    • That is correct… you cannot “hide” 401K contributions from income. There’s a specific line on the FAFSA form for this in the “Untaxed Income” section. And you’re also correct regarding the asset NOT being assessed in a 401K but it would indeed be assessed at a rate up to 5.64% if it’s placed in savings.