The money you put into your 401(k) doesn't reduce the calculated expected family contribution on your Free Application for Federal Student Aid. That doesn't mean that you don't want to fund your 401(k), though. Putting money in your 401(k) has long-term benefits beyond financial aid. In the short term, it's also one of the better places to save money if you're looking for aid.
Understanding EFC and COA
Your eligibility for need-based financial aid comes from the difference between your college's cost of attendance and your EFC. For example, if you have an EFC of $7,300 and your college has a $29,100 COA, your financial need would be the $21,800 difference between the two. If you can make your EFC go down, your aid eligibility goes up and you could get more need-based financial aid.
Income and EFC
If you're a dependent student, both your income and your parents' income get considered as a part of your EFC. The more money you and your parents make, the more the FAFSA will calculate that you can afford to pay towards college. While certain types of income can be excluded, you can't pull out the money that you or your parents put into 401(k) accounts. If everyone's combined income is $85,000 before 401(k) contributions and $80,000 after them, the $85,000 is what counts for the FAFSA.
401(k) Accounts and EFCs
Once money is in a 401(k) account, though, the rules get more favorable. The FAFSA looks at your assets and your parents' assets when it decides what your EFC should be. However, the calculation excludes money in a 401(k) account or in other qualified retirement accounts like IRAs. In other words, you'll get the same aid whether you and your parents have $2 million saved or have nothing saved in 401(k) accounts.
Money that you or your parents save outside of a 401(k) or other retirement account does get counted in your EFC. For instance, if your parents have $200,000 saved in regular accounts, as of 2014 the FAFSA could require them to spend up to $11,280 per year, out of that money towards your education. You could have to spend up to 25 percent of your savings, so if you have a $20,000 account that isn't a 401(k), up to $5,000 could be added to your EFC.
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