Journal of Financial Planning: March 2024
WHO: Mark Kantrowitz
WHAT: Author, Thecollegeinvestor.com
WHAT'S ON HIS MIND: “Forgiveness is like giving a grant after the fact. That doesn’t improve who graduates college, it doesn’t improve who enrolls in college. It simply is after the fact making college more affordable.”
The SECURE 2.0 Act had a number of changes related to education funding. Can you talk about some of those changes and what you think the long-term effect of those changes will be on graduates’ financial situations?
One of the changes was the ability to roll over leftover 529 college savings plans into a Roth IRA. It’s still subject to the annual limits and it’s not in addition to regular contributions, but you could roll over up to $7,000 a year, which means that, given there’s a $35,000 limit, it would take you five years to do that. The money has to have been in the 529 plan for at least 15 years. You can’t roll over money from the last five years, but it eliminates one of the objections to saving for college in that, what if your child doesn’t go to college?
In addition to the ability to use up to $10,000 per borrower from a 529 plan to repay student loans, this also opens up another option, which is when you roll over the money from a 529 plan into a Roth IRA, the principal and earnings carry through. A Roth IRA allows you to do a tax-free return on contributions for any purpose. So you could roll over the money from your 529 plan to a Roth IRA and then take a tax-free return on contributions to pay off your student loans, and that’s above and beyond the $10,000.
The retirement plan matching [provision] is taking what had been a private letter ruling, improving it slightly, and making it available to everybody. It enables employers to [consider] student loan payments for the purpose of matching contributions to a 401(k) or other qualified retirement plan. Right now, employer student loan payments direct [to the lender] are tax-free. That’s through December 31, 2025, unless extended or made permanent by Congress. [Retirement plan matching] is another method for employers to provide tax-free matching and it doesn’t expire, and the employee doesn’t have to make any contributions to the retirement plans. From the employer’s perspective, this has several benefits. One, it’s an effective recruiting and retention tool. It also is tax-free to the employer. I think it’s a good option. I don’t think it’s going to be adopted on a widespread basis, but I think that it will be something that employers consider and some of them will [offer].
Let’s suppose that you have $10,000 in a Roth IRA and that you get a 6 percent annualized return on investment with appropriate risk. You’re compounding it for 40 years: $10,000 becomes $100,000. If you are doing ongoing contributions—so maybe it’s not $10,000, maybe it’s just $3,000 a year—but you’re doing it over 40 years, that’s a significant amount of money. With regard to the $35,000 leftover 529 plan money, if you move it over to a Roth IRA then don’t touch it for 40 years, that will yield over $350,000. The power of compounding certainly works in your favor, plus, from the employee’s point of view, this is free money.
All in all, I think these are good benefits, and it is in an area where Congress is more likely to pass changes. Republicans like tax cuts, Democrats like student loan forgiveness and savings and such, so it’s a meeting on both sides.
There have been a lot of problems with the release of the new FAFSA form, which ostensibly makes it easier for students to apply for aid. What do planners need to know to advise their clients on the process, especially if they’re facing potentially less aid than they expected?
The FAFSA Simplification Act was part of the Consolidated Appropriations Act of 2021, and it provided for simplifying the FAFSA. The 2024–25 FAFSA, which people are filing now, has been dramatically simplified, where the number of questions has been cut by two-thirds. But due to the complexity of simplifying the FAFSA—I just love saying that—the FAFSA release was delayed. Congress had mandated that it had to be out before January 1. The Department of Education put it out on December 31 with a soft launch, which meant they were building the airplane as they were flying it to the destination, and they are still building. Now millions of people have successfully filed the FAFSA, but it hasn’t yet been processed [as of late January]. The colleges won’t receive their data theoretically until the end of January, and there’s a possibility that’s going to get delayed. The problem with that is the colleges have to assemble financial aid award offers and send them out to the students. In a normal year, they would get what’s called an ISIR—an institutional student information record—within a few days of the student filing the FAFSA. People who applied early decision or early action this year didn’t get their financial aid award letters at the same time as they received their offers of admission, and that particularly matters for people who applied early decision because theoretically you have to withdraw your applications to other colleges once you get accepted, but you need to be sure that the college that accepted you is affordable. I’ve been advising students to not withdraw their applications until they see the financial aid offers from all the colleges because one of the reasons why you can back out of the commitment is if you can’t afford to go to the college.
Last year, there was something called the IRS data retrieval tool, which was optional, but would transfer your income tax information from the federal income tax return automatically into the FAFSA. . . . This year, with the simplified FAFSA, they switched to something called the IRS direct data exchange, which is no longer optional.
There is one set of families that aren’t going to be able to use IRS direct data exchange, and that’s families who are divorced or separated now but who filed a joint return two years ago. The U.S. Department of Education is unable to separate out the current parent’s and the parent’s completing the FAFSA income tax information. I would joke that the IRS doesn’t know how to subtract, but it’s a little bit more complicated than that.
What should planners know about the new SAVE repayment plan that will be fully implemented this summer?
The SAVE repayment plan is a new name for the REPAYE plan. It does a couple of things. First, like any income-driven repayment plan, your monthly payment is a percentage of discretionary income with the remaining debt forgiven after a number of payments. It changes the definition of discretionary income from the amount at which adjusted gross income exceeds 150 percent of the poverty line to 225 percent of the poverty line. So that is going to reduce the payments for everybody. For undergraduate debts, starting July 1, it’s going to reduce the monthly payments from 10 percent of discretionary income to 5 percent of discretionary income. Graduate student debts will remain at 10 percent.
There is a new provision that if you started off with less debt, your forgiveness occurs sooner. So if you had $12,000 or less debt when you started off, your remaining debt is forgiven after 10 years instead of 20 or 25 years. For each additional $1,000 of debt, you add a year, so if you have $14,000 of debt, that would be 12 years. This is particularly going to benefit community college students who borrow a lot less, but it will also benefit other groups of students who maybe didn’t borrow as much.
President [Joe] Biden has forgiven more student loan debt; even though it was blocked by the U.S. Supreme Court, he has forgiven more student loan debt under existing provisions than any previous president. Part of this is [because] he made the process more efficient. He’s doing automated data matches with the Veterans Administration, the [Department of Defense], and Social Security Administration to enable the total and permanent disability discharge to be implemented more efficiently. There was a borrower defense to repayment [discharge], which the Trump administration had stonewalled on; there was a lawsuit, they settled that lawsuit [in the Sweet v. Cardona] settlement. They’re also doing more efficient review of the applications for discharge and [fixed some problems with] public service loan forgiveness. . . . They’re working on Plan B for broad student loan forgiveness. Even if it survives the courts, which I don’t think it will, it’s still going to be much more targeted at people who are having trouble repaying their student loans. . . . They’re also trying to make college more affordable on the front end. I would rather see the Pell Grant double today, not waiting several years. By the time it’s ultimately doubled, it’ll be time to double it again. But if you increase the grants, you reduce the debt. Forgiveness is like giving a grant after the fact. That doesn’t improve who graduates college, it doesn’t improve who enrolls in college. It simply is after the fact making college more affordable.