You can withdraw the money that you contributed to your Roth IRA—but not its earnings—at any time for any reason without tax or penalties. If you are age 59½ or older or disabled and you have had your Roth IRA for at least five taxable years, you can withdraw your funds tax-free without limitations. If you are younger than 59½ and are the beneficiary of a Roth IRA that has existed for at least five taxable years, you can take early distributions to pay for college or other qualified higher education expenses (QHEE).

What Are Qualified Higher Education Expenses?

QHEE may be for yourself or your spouse, the children or foster children of you or your spouse, or their descendents, such as you or your spouse’s grandchildren.

QHEE must be for an eligible education institution. This is any postsecondary institution that is eligible to participate in student aid programs administered by the U.S. Department of Education. It includes virtually any accredited public or nonprofit postsecondary institution, as well as privately owned profit-making schools. It also includes certain educational institutions outside of the United States that participate in the Department of Education’s Federal Student Aid programs.

QHEE are expenses required for enrollment or attendance at a qualified educational institution. They include:

• Tuition
• Fees
• Books
• Supplies
• Equipment
• Special-needs services for special-needs students
• Room and board if the student is enrolled as at least a half-time student

A student who is at least half-time is one who is enrolled for at least one-half of the full academic work load for the course of study being pursued, as determined by the educational institution. Room and board expenses qualify only to the extent that they do not exceed the greater of the following two amounts:

• The room and board allowance that, for federal financial-aid purposes, is included in the cost of attendance for the particular academic period and student’s living arrangements, as determined by the institution
• The actual amount charged if the student is residing in housing owned or operated by the institution.

Will My Early Distributions Be Taxed?

Early distributions from a Roth IRA are money that you withdraw before the age of 59½, other than your after-tax contributions. You are not considered to be withdrawing earnings until you have withdrawn the total amount of your contributions, including rollover contributions. Early distributions of earnings are added to your taxable income for the year and are subject to an additional 10% tax. However, distributions that are less than or equal to your QHEE for the year are not subject to the 10% tax, although they are included in your gross taxable income.

How Do I Calculate the Tax on My Early Distributions?

To determine the amount of your early distribution that is subject to the 10% tax, you must first calculate your adjusted qualified education expenses (AQEE). Your AQEE is your QHEE reduced by any tax-free educational assistance, including:

• Distributions from a Cloverdell education savings account (ESA)
• Tax-free portions of scholarships and fellowships
• Pell grants
• Veterans’ education assistance
• Employer-provided education assistance
• Any other nontaxable or tax-free payments received for education assistance, other than gifts or inheritances

Your qualified education expenses are not reduced by funds that the student receives as:

• Payment for services such as wages or salary
• A loan
• A gift
• Withdrawal from personal savings, including savings from a qualified tuition program (QTP)

If your Roth IRA early distribution is less than or equal to your AQEE, it is not subject to the 10% additional tax. If your Roth IRA early distribution is more than your AQEE, then the amount above your AQEE is subject to the additional 10% tax.

Are There Advantages to Tapping My Roth IRA to Pay for College?

Depending on your circumstances, there may be advantages to tapping your Roth IRA to pay for college. If you have made contributions to your Roth IRA over many years, those contributions grow tax-free. You can then withdraw an amount up to the amount of your total contributions without paying taxes on it. Furthermore, unlike college savings plans, Roth IRAs are not considered to be an asset of either the student or the parent in determining eligibility for federal financial aid.

Relying on the earnings from your Roth IRA to pay for college is probably not advisable because there is a $10,000 lifetime limit on qualified exceptions to the 10% additional tax on early distributions. Furthermore, Roth IRA distributions are considered unearned income, regardless of whether they are taxable, which affects financial aid assessments.

Additional Resources

-    Internal Revenue Service    http://www.irs.gov/publications/p590/ch01.html#d0e8588          

                                            http://www.irs.gov/pub/irs-pdf/p970.pdf

-           State Farm        http://www.statefarm.com/learning/life_stages/college_fund/coverfaq3.asp