Saving for Retirement AND Paying Off Student Loans?!
By Joe Messinger, CFP®
September 21, 2018
Many college graduates are trying to pay off their student loans AND save for retirement. They are failing. Retirement is being put on hold while they focus on simply making their student loan payments. Adults are still paying student loan debt into their 40s. 7.3 million borrowers are in their 40s, and they owe close to $279 billion (according to the Federal Reserve).
Save for retirement or pay off student loans?
What if they could do both–save for retirement and pay off their student loans? A recent private ruling by the Internal Revenue Service may pave the way for a future employee benefit to do just that.
Most of us are familiar with how company-sponsored retirement plans work. Employees have funds withheld from their paycheck, and they are deposited into the 401(k) account. Sometimes an employer may choose to match that deposit up to a certain percentage to encourage saving.
In this case, an employer had a great idea.
Employers want to help their employees. They want to attract quality people with the best benefits. If an employer were to simply pay their employee $100 each month toward their student loan bill, then that money would be taxed.
What if the employee made the payment towards their student loan debt, and the employer still deposited money on the employee’s behalf into their 401(k) plan? Their idea read like this: “As long as employees can prove that they are paying at least 2% (of their income) toward student loan debt, the company will make a 401(k) contribution equal to 5% of their salary to their retirement plan, even though they don’t actively contribute to their 401(k).”
The student keeps making payments on their student loans, and the employer is making payments into their 401(k). The payments made into the 401(k) plan are not taxed, and the employer probably would be making those payments anyway if they employee was able to participate.
Why did the IRS get involved?
The employer with this great idea needed to get approval from the IRS. (As an aside, while the employer was not identified in the filing, the Chicago Tribune reported it as Abbott Laboratories.)
In the past, employers worried about triggering the “contingent benefits rule” of a 401(k) which says “an employer may not make other benefits, such as health insurance, stock options, or similar entitlements, contingent on a participant’s making elective deferrals under a 401(k) plan.” Would making contributions on the employee’s behalf into a 401(k) plan be prohibited because the employer was asking for the employee to make their student loan payments? The IRS concluded that they did not violate the ruling.
Well, technically this ruling applies to the single employer; however, it does lay the groundwork for future employers to also take advantage of this idea. The ERISA (Employee Retirement Income Security Act) Industry Committee sent a letter to the IRS asking for them to issue general guidance for other employers. Human resource managers are taking notice, and getting their attorneys involved to make this happen for their employees too.