How paying off your student loans could boost your retirement benefits

The House just passed HR 2954 Securing a Strong Retirement Act, called the Secure 2.0 Act, which has overwhelming bipartisan support, with a vote of 414 in favor and only 5 against. The law includes a big benefit for people who are working to pay off their student debt but have limited resources to invest for retirement.

The average amount of student loan debt per borrower in 2021 was $38,792, while the total amount of outstanding student loans was estimated at $1.58 trillion. While many would expect the most recent university graduates to carry the most student debt, the Federal Student Aid Portfolio indicates that the largest federal student loan balances are held by adults between the ages of 35 and 49, with student loan balances of $622 billion or 40% of total student debt outstanding. The ability for this age group to start and increase retirement savings is imperative for a successful retirement. Congress’s concern that adults were focusing on paying off student loans rather than investing in retirement savings is highlighted in the House Proposal, Section 111. This might be the better option than the Congress is ready to offer as an alternative to canceling student debt.

The House proposal seeks to expand the definition of an employer matching pension contribution to include employer contributions made on behalf of an employee making payments for qualified student loans. Therefore, even if an employee can only make their student loan payments, the employee would be allowed to receive a matching employer contribution to the 401(k) plan, 403(b) plan, or SIMPLE IRA from the employer.

For example, suppose Adam is an eligible participant in his employer’s 401(k) plan. Adam earns $1,500 per week, or an annual salary of $78,000 per year. The employer will match contributions up to 4% of Adam’s salary. Therefore, prior to the proposal, Adam would need to contribute $60 (1,500 x 4%) per week to maximize his employer contribution of $60 per week. If Adam could participate, Adam could create $6,240 in savings in one year ($120 x 52 weeks), or $62,400 over 10 years before any interest.

Unfortunately, Adam died while making 401(k) contributions. Instead, Adam made student loan payments of $60 a week. Under the House proposal, the employer is allowed to treat the $60-a-week payment as the employee’s contribution to Adam’s 401(k) plan, prompting a match from the employer. The employer match of $60 per week would result in additional retirement savings for Adam of $3,120 per year, or $31,200 over 10 years before any interest. This change to the definition of what can be taken into account when calculating employer contributions could have a positive impact for many adults burdened with student loan repayment.

Do I have a qualified student loan?

The definition of a qualifying student loan is tied to existing requirements used to determine student loan interest deductibility. A loan will be considered an eligible student loan if it was taken out by the taxpayer solely to pay qualified higher education fees, and the tuition fees are:

1. Made in the name of the taxpayer, the taxpayer’s spouse or any dependents at the time the debt was incurred,

2. Paid within a reasonable time before or after the debt arose, and

3. Attributable to a student enrolled in a degree or certificate program who completes at least half of the normal full-time workload for the course the student is pursuing.

Eligible education costs include tuition fees. A student’s tuition usually includes tuition and fees (net of certain amounts, including scholarships) and an allowance for room and board, books, supplies, transportation, and miscellaneous expenses of the student.

How will my employer know if I am repaying an eligible student loan?

Based on the House proposal, the employer can rely on an employee certification to ensure that payments were made under a qualified student loan.

Will employers have different benefits for cash contributions versus qualified student loan payments?

An employer contribution made on behalf of an employee making a qualifying student loan payment will only be considered eligible for employer matching if:

1. The plan provides that matching contributions related to qualifying student loan repayments are treated the same as salary reduction contributions;

2. All employees who are eligible to receive matching contributions under the employer’s original plan are also eligible to receive a matching contribution relating to the payment of eligible student loans; and

3. Vesting is the same for employees who have pay reduction contributions or are making qualified student loan repayments.

Broad bipartisan support for the bill is also expected in the Senate. While the inclusion of Section 111 is exciting, it is important to emphasize that this is a voluntary benefit that employers have the option to provide but are not required to provide. Careful attention to the status of the bill should be monitored and if passed, a conversation with your employer may be helpful. If the employer matching ability on qualifying student loan repayments is enacted, it will apply to contributions made for tax years beginning after December 31, 2022.

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