Four Strategies for Paying for College


Reader Question: My husband and I need some advice regarding paying college tuition for our last two children and the expected engagement and wedding of our oldest daughter. Here are some of the specifics.
We have five children, three have graduated from college and one of our two daughters is married. We have student loans that we are still paying for the older children. Our sons are beginning college now and both have qualified for Federal student loans. 
Here’s our question, should we consider borrowing funds from my husband’s 401K plan to get us through these next two-four years or consider re-financing our home? We’ve lived in our home for twenty years and have a good amount of equity and we have good credit.
We welcome any and all suggestions you might have for navigating through these next couple of years.
Answer: It seems to me that you have four choices:
1.      Borrow against your 401k. One advantage would be that you ‘become the bank’, meaning you are making a loan to yourself and all interest paid is going into your 401k account. You are limited to the lesser of $50,000 or one-half of your account value. There are some disadvantages as well. You are required to repay the loan within five years and if you terminate your employment you must repay the loan immediately or it will be treated as a distribution and subject to ordinary income taxes and possibly a ten percent federal early withdrawal penalty as well. You don’t receive a tax deduction for interest paid to your 401k.
2.      Continue to use student loans. If your children qualify, this could be a good choice as it allows the postponement of payments until after your children graduate. At that time, hopefully, your children will have a job and can help with payments if needed. Interest paid of up to $2,500 for qualified student loans is deductible for single taxpayers with modified adjusted gross income of less than $75,000 ($155,000 for joint filers).
3.      Refinance your home using a conventional first mortgage. Interest rates are still very favorable with thirty-year mortgage rates around 4.5% and fifteen-year rates about 3.5%. The disadvantage with this strategy is potentially relatively high closing costs. One goal we consistently have for our clients is to be debt free by retirement including home debt. Upon refinancing, interest paid on the total of your current debt plus up to $100,000 of new debt is tax deductible.
4.      Get a home equity line of credit (HELOC) on your home. The HELOC provides perhaps the greatest flexibility with the least amount of costs. Interest payments on up to $100,000 are tax deductible and HELOC loans typically don’t have closing costs. The interest rate for a HELOC typically is based on the bank’s prime lending rate and is often set up requiring that you only pay interest each month instead of ‘amortizing’ the loan based on the payment of interest and principal. This gives you the flexibility of paying interest-only when cash flow is tight or you can pay chunks of principal when you get a bonus or otherwise have extra cash. Because it’s a ‘variable’ interest rate loan, your interest rate will rise or fall as prime interest rate changes. The current prime rate, 3.25%, has been in place for several years and may remain so for the near future. However, my best guess is that short-term interest rates are poised to begin rising within the next thirty-six months. They may rise very slowly or more rapidly so this may not be the best strategy if you anticipate it taking longer than sixty months to repay the loan.
Ultimately, which is the best strategy depends on your particular financial circumstances. If you start out with the HELOC, you likely would be able to switch to one of the other strategies should circumstances dictate that one or more is a better choice.
Reader Question: Can you recommend a good smartphone or iPad app for tracking balances, investments and performance in multiple investment accounts with multiple investment firms (TDAMERITRADE, Schwab, and Fidelity). Accounts include 401K, IRAs (ROTH and Regular), stock/mutual fund as well as MM accounts.
Hoping there’s a way to simplify how I track so many accounts.
Answer: The American Association of Individual Investors (AAII) periodically does detailed research for the top portfolio tracking software and three of their top recommendations include:
According to AAII member, Joe Lan, CFA, “These three websites provide the best combination of features, functionality, price and simplicity for the individual investor.” For a link to his research report, click here.