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Student’s Roth IRA may be factor in aid

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Question: My daughter has earnings from a part-time job, and I would like to get her started on saving for retirement by opening a Roth IRA with a small amount of money — less than $1,500. In the fall she will be going away to college, and I was told by one financial-aid officer that the Roth would be considered one of her assets and she would have to cash it in to help pay for school.

That doesn't sound right to me. Money in my IRA does not have to be reported on the FAFSA, so why would it need to be reported for my daughter? What are the rules for a college student's assets?

Answer: You are correct that the Free Application for Federal Student Aid — the FAFSA — doesn't assess retirement accounts when determining how much a family is expected to pay for college. That would include your daughter's retirement account as well as your own.

But some colleges do include retirement assets in their financial-aid calculations. Under the federal formula, students are expected to kick in 20 percent of their assets to pay the college tab. The institutional formula used by some schools assesses student assets at 25 percent. Check the policy at each school your daughter is considering.

In either case, however, you wouldn't have to cash in your daughter's Roth IRA. Assuming an account balance of $1,500, she might be expected to contribute $300 to $375 to her education. If she (or you) could come up with that much, you wouldn't have to tap the account.

Question: I was interested to read in one of your recent columns that a Roth IRA can be used to pay for college. Are there any restrictions on which college expenses are eligible? For example, could you use the money to buy a car if you need transportation to and from school?

Answer: Unfortunately, the rules aren't that generous. Withdrawals from a Roth IRA can be used for "qualifying expenses," defined as tuition, books, supplies and equipment, enrollment fees, and room and board if you're at least a half-time student. But wheels don't make the cut.

Bear in mind that you can withdraw your earnings without paying a 10 percent early-withdrawal penalty, but you'll owe income taxes.

Question: I consolidated my Stafford student loans after graduation, but the interest rate is 7.5 percent. Can I reconsolidate them at an even better rate?

Answer: Sorry, but you only get one chance to consolidate federal Stafford loans.

Janet Bodnar is deputy editor of Kiplinger's Personal Finance magazine and the author of "Raising Money Smart Kids" (Kaplan, $17.95) and "Money Smart Women" (Kaplan, $15.95). Send your questions and comments to moneypower@kiplinger.com.