Q&A: "I am 65 and Want to Tap my IRA and Other Annuities to Help Pay for my Daughter's College Education...Will I Need to Pay Taxes on the Money Applied for Tuition and Housing?"Insurance Retirement Accounts Tax
Question and background:
I am 65 and want to tap my IRA and other annuities to help pay for my daughter's college education. I know there isn't a penalty for withdrawal, but will I need to pay taxes on the money applied for tuition and housing? Is there a limit on the amount that can be used each year without tax liability? I was planning on withdrawing $8,000 - $10,000 per year.
Parents are sometimes so focused on helping their children get a good start in life that they neglect their own financial well-being. So I "second the motion" that Brian made in recommending you first consult a qualified financial planner on your overall retirement plan before tapping resources for non-retirement purposes.
But to answer your question . . . .
Withdrawals from your traditional IRA will be taxed as ordinary income. Assuming your annuity is not in an IRA (a "non-qualified deferred annuity"), if the contract date is after 1982 then the earnings come out first and are taxed as ordinary income. That's a LIFO tax treatment on annuity earnings ("last-in, first-out"). If the annuity was bought before 1982, then contract's basis will come out first and withdrawals won't be taxable until your basis is used-up and you're drawing out earnings. That's a FIFO tax treatment ("first-in, first-out").
Though you have tax implications with these withdrawals, you may be able to claim certain education deductions or credits. Here's the IRS on Tax Benefits for Education.
Estate & Gift Tax
You can give your daughter up to $14,000 in 2014 without having to file Form 709 (Gift Tax Return) or use-up any of your lifetime gift tax exemption. And if you are married and you split gifts with your spouse, the two of you can contribute up to $28,000 without gift tax implications.
If for some reason your daughter's needs become far greater, then any tuition payments you make directly to the qualifying education institution are not countable against the $14,000 gift tax exclusion amount for funds you give your daughter directly.
Hope that helps. All the best.
Originally posted on NerdWallet's Ask an Advisor on June 17, 2014.