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IRA or 529 Plan—Which Is Better for College Savings?

No matter if you’re saving money to pay for college for yourself or a child, it’s important to use the right account so you get as many benefits as possible. Laura answers a listener question about whether he should use an IRA or a 529 plan for the best results.

By
Laura Adams, MBA
8-minute read
Episode #451

Who Can Have an IRA?

Many parents mistakenly believe that they can open up an IRA in a child's name and begin funding it.

Before you can contribute to either a traditional or a Roth IRA there’s an important requirement: you typically must have earned income, such as a salary, wages, tips, bonuses, commissions, or self-employment income. The only exception is a spousal IRA, which allows you to have a retirement account if you're married and file taxes jointly, but don't earn income.  

And with a Roth, you become ineligible to make contributions when you earn too much, which I’ll explain in just a moment.

An IRA can’t be owned jointly or owned for someone else. Minors can have their own traditional or Roth IRA once they earn money. So children can start contributing to an IRA as soon as they get their first part-time job or have self-employment income.

Many parents mistakenly believe that they can open up an IRA in a child’s name and begin funding it. If you have a non-working child, the only option is to fund your own IRA and then take withdrawals from it later on to pay for his or her college expenses.

For 2016, you can contribute an amount equal to your taxable compensation up to $5,500 or up to $6,500 if you’re age 50 or older.

See also: What Are the Roth IRA Rules for Married Couples?

What Is the Roth IRA Income Limit?

Because the tax benefits are so good with a Roth IRA, the amount you can contribute is reduced or eliminated when your income reaches certain limits. For 2016, single taxpayers who earn more than $132,000 are shut out. And the cutoff for married people who file a joint tax return is $194,000.

If you contributed to a Roth IRA in the past but now make too much money to be eligible, congratulations! But don’t let that stop you from saving for retirement—you can open up and contribute money to a traditional IRA instead.

As the cost of living increases, the IRS periodically increases the Roth IRA income threshold. So if your income falls below the Roth cutoff in the future, you can start making contributions again to the same account.  

You may be wondering if you can have an IRA and contribute to a retirement plan at work, such as a 401k or 403b. The answer is yes. However, if you or your spouse have a retirement plan at work, the tax deduction for your traditional IRA may be reduced or eliminated, depending on how much you earn.

Remember that you’re never required to make a contribution to an IRA. They stay open indefinitely with no penalty even if you don’t fund them.

See also: A Blueprint to Organize Your Personal Finances

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About the Author

Laura Adams, MBA

Laura Adams received an MBA from the University of Florida. She's an award-winning personal finance author, speaker, and consumer advocate who is a frequent, trusted source for the national media. Money-Smart Solopreneur: A Personal Finance System for Freelancers, Entrepreneurs, and Side-Hustlers is her newest title. Laura's previous book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love, was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show.