A friend recently sent me the following email:
“… here’s a question to challenge your finance column. I’ll make it a little hypothetical. “Our son graduated from college and is working to save money for graduate school. In college, he accumulated over $20000 in student loans (avg. 7%) and desires to pay them down ASAP by paying more then the minimum payment while at the same time saving money to attend graduate school. He recently found out that the company he works for has a matching 401K plan which in effect results in a 100% return. It so happens that a person can use money from a 401K to finance continuing education—paying a 10% penalty and normal income taxes.
Follow me? The question is “Would it be wise to pay the minimum payment on the student loans and sock the rest into the 401K anticipating pulling it out when it’s time for graduate school?”
401(k) for college? No way! Or…maybe.
My knee-jerk reaction was, “No. Never, ever take money from your 401(k) unless it is for an extreme emergency.” But as I pondered his question, I could see the logic of it. Instead of putting every penny against his 7% student loan, make minimum payments and throw every extra penny into his 401(k) in order to get the 100% match and then take it out (paying the 10% penalty and all taxes) when he starts graduate school, knowing that all student loans would be suspended at that time. He could defray his graduate school cost at that time, thus lessening his future student loan debt.
Although the idea still doesn’t sit well with me, I told him that it would probably work.