Updated: Jan 04, 2023

IRS Ruling Allows 401(k) Match When Paying Off Student Loan Debt

The IRS introduced a rule regarding how employers can issue 401(k) plan contribution matches when an employee makes payments toward student loan debt.
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An exciting development has worked its way into 401(k) plans, and may even have the blessing of the IRS.

This is good news:

Specifically for young workers who are burdened with student loans and have been unable to contribute to an employer-sponsored retirement plan.

While concentrating on large student loan debt payments, many young workers have been unable to participate in plans, such as 401(k) plans.

The emphasis on paying off student loan debt has excluded millions from saving for retirement.

But under a recent letter ruling by the IRS, it now appears that situation may be changing for the better.

Young workers paying off their student loan debts may now be eligible to participate in employer-sponsored 401(k) plans.

How the 401(k) Match When Paying Off Student Loans Came to Be

The development centers on IRS Private Letter Ruling #201833012.

In the ruling, which is based on a request by a specific employer:

The IRS has given the green light to that employer to offer matching 401(k) contributions to their employees who are paying student loan debts, and are unable to make direct 401(k) contributions. For example, let’s say an employer offers a 5% matching contribution on their 401(k) plan.

Under the IRS letter ruling, the employer will be able to make the matching contribution, even if the employee isn't making any contributions to the plan herself – as long as she’s making student loan debt payments. Based on the letter ruling, the employee’s payments to student loan debts effectively represents employee contributions to the retirement plan.

The employee is thus eligible for the employer match, even without making any direct contributions.

The Specifics of the Ruling

Under the letter ruling, the employer making the request will make a 5% matching contribution to an employee who is making a 2% contribution to the plan.

The 2% employee contribution is the minimum contribution required to participate in the employer’s plan.

But instead of contributing 2% to the 401(k) plan, the employee instead makes student loan debt payments for at least the same amount.

The IRS letter ruling is approving the arrangement.

Impact on employees

The employee can make his or her regular monthly student loan debt payments while qualifying for the full 5% employer matching contribution to the plan.

Naturally, this doesn't provide be indebted employee with full participation in the 401(k) plan.

They'll get the benefit of the 5% employer match, but there may still be no money available in their paycheck to make an employee contribution.

While an un-indebted employee might be able to contribute 10% to the plan and earn a 5% employer match for a total of 15%, they will only get the employer match.

But, 5% is better than nothing.

Because of the high monthly payments on student loan debts, many employees are unable to participate in 401(k) plans until much later in life, when the loans are paid.

That leads to...

The lost opportunity to take advantage of the time value of money.

It's been well documented in the financial industry that one of the biggest keys to retirement savings success is saving and investing early.

The inability to participate in a plan early in life is leaving many people with student loans permanently impaired with retirement savings.


The Ruling May Not Be a Done Deal

However, there is a specific limitation on IRS letter rulings.

When the IRS issues such a ruling, its determination is limited to the specific situation as requested by the taxpayer – in this case the employer making the request.

It does not represent a general ruling by the IRS for all employers.

That said:

The letter ruling does represent something of a precedent going forward.

The student loan debt situation is quickly morphing into a national crisis.

Millions of graduates are burdened with very large student loans, that are making it very difficult to move forward in life. Pressure is building to offer some kind of relief.

This letter ruling moves us closer to that relief.

Already, some employers have adopted the 401(k) match for student loan debt payments. And there's pressure mounting for Congress to adopt a broader recognition of the program.

The Benefits of the 401(k) Match When Paying Off Student Loans

Apart from the ability to participate in a 401(k) plan, the 401(k) match creates what is effectively a tax-free benefit.

Some employers do offer a student loan repayment benefit.

An additional income is provided to help the employee make monthly debt payments.


The student loan repayment subsidy is a taxable benefit.

The employee can use the funds to make their monthly payments, but the benefit will be included in their year-end W2 as a taxable income source.

Since the 401k) employer match is not taxable, the employee will effectively receive a student loan debt payment subsidy without having to pay tax on the benefit.

The employer match doesn't directly subsidize the employee’s student loan debt payments. But it does enable the employee to accumulate money in the 401(k) plan while paying off student loan debt.

It largely removes the either/or choice between 401(k) participation, and student loan debt repayment.

There's also a benefit to the employer.

Direct student loan debt payment subsidies are a direct cost to the employer. But the employer match on 401(k) plan contributions is a benefit available to all eligible employees.

Therefore, the employer match creates a cost neutral arrangement for the employer, that also makes it easier for the employee to service their student loan debts.

An Example of the Benefit of the 401(k) Match When Paying Off Student Loan Debt

In practical terms, the 401(k) match on student loan debt payments doesn't provide any direct assistance to the employee in servicing the debt.

But it does enable the employee to participate in the 401(k) plan while paying off the debt. This is a benefit many heavily indebted employees currently lack.

But even without the direct debt payment benefit, the 401(k) match still provides the employee with a major advantage. Let's take an employee earning $50,000 per year, who is unable to participate in a 401(k) plan due to a large monthly student loan debt payment.

If the employer provides a match of 5%, $2,500 will go into the employee’s 401(k) account each and every year. If the employee is unable to make any direct contributions to the plan for 10 years, the match will ensure that at least some funds are being set aside for retirement.

If $2,500 per year is invested at an average rate of return of 7%, it will grow to $35,839 after ten years. That may not be the stuff of fast-track retirement savings, and certainly not early retirement, but it's a start. That’s better than nothing and far better than what most heavily indebted young employees currently have.

What's more, once the student loan debt is fully paid, and the employee is in a position to make substantial contributions to the 401(k) plan, he or she will be in a much better position starting with nearly $36,000 than with zero.

Potential Limitations

As good as the letter ruling appears on the surface, it's not a perfect solution, and certainly not a full-on remedy to the entire student loan debt crisis. For example, with a 401(k) employer matching contribution, the employer isn't actually making the employee’s monthly debt payment.

The employer is contributing funds to the employees 401(k) plan, which wouldn't happen otherwise.

But the employee will still be on his or her own in making the monthly payment. And while the 401(k) matching contribution is tax free to the employee, there is no tax deduction for the student loan debt payments the employee will continue to make. Those payments will be made out of after tax income, providing no tax relief.

It's also likely the employer matching contribution may not come close to the actual amount of the employee’s monthly debt payment. For example, a 5% match on a $5,000 monthly income is $250.

But if the employee’s monthly student loan debt payment is $500, the employer match on the 401(k) will equal only 50% of the actual monthly payment. Still another possibility:

Should the 401(k) match method gain traction and become common, the employers offering direct student loan payment subsidies may decide to cancel that program.

Since it represents a direct cost, terminating it would constitute direct savings for the employer.

A Positive Direction

Finally, there’s the possibility the IRS ruling won't go much farther than it already has.

In the end:

It may apply only to a limited number of employers, and only under certain restricted circumstances.

But overall, this looks like a positive development.

And with an election season in the making, we can dare to hope that a very limited IRS letter ruling to a single employer builds into something much bigger and more comprehensive.

The political pressure is building for Congress to provide some sort of definitive relief, and this ruling may be the start.