A qualified tuition plan, also known as a 529 plan, is a tax-advantaged way to save for education expenses. A Roth IRA is an individual retirement account that allows tax-free growth and withdrawals of contributions and earnings, subject to certain rules. Both accounts are funded with after-tax dollars, but they have different purposes and benefits.
If you have excess funds in your 529 plan that you don’t expect to use for education, you may be wondering if you can roll them over to a Roth IRA and enjoy the tax-free retirement benefits. The answer is yes, but only under certain conditions.
The SECURE 2.0 Act, which became law in December 2022, allows rollovers of some funds from 529 plans to Roth IRAs without tax and penalties. However, this option is not available until 2024, and there are several limitations and requirements that you need to be aware of.
Eligibility Criteria for 529 to Roth IRA Rollovers
To qualify for a tax-free rollover from a 529 plan to a Roth IRA, you need to meet the following criteria:
- The 529 plan must have been open for at least 15 years at the time of the rollover. (Note that it is currently unclear whether this 15-year period restarts when there is a beneficiary change)
- The rollover amount must not include any funds that have been contributed to the 529 plan within the five years preceding the rollover.
- The rollover must be done as a direct transfer from the 529 plan to the Roth IRA, without taking possession of the funds. The Roth IRA must be opened in the name of the 529 plan beneficiary.
- The rollover amount must not exceed $35,000 over your lifetime.
- The rollover amount must not exceed the annual contribution limit for Roth IRAs, which is $7,000 for 2024 ($8,000 if you are age 50 or older).
- Beneficiary’s must have earned income in the year of the conversion. The conversion limit is the lesser of earned income or the annual contribution limit.
- Beneficiaries are not subject to income limitations. For example, if a beneficiary’s income is over the annual limit ($153,000 in 2023 for single taxpayers, $240,000 if married filing jointly), the beneficiary can still make a conversion from the 529 plan to the Roth IRA.
If you fail to meet any of these criteria, the rollover will be treated as a nonqualified distribution from the 529 plan, which means you will owe income tax and a 10% penalty on the earnings portion of the rollover.
Benefits of 529 to Roth IRA Rollovers
The main benefit of rolling over funds from a 529 plan to a Roth IRA is that you can avoid paying taxes and penalties on excess funds that you don’t need for education. Instead, the beneficiary can invest them in a Roth IRA and enjoy tax-free growth and withdrawals in retirement, as long as they follow the rules for qualified distributions.
Alternatives to 529 to Roth IRA Rollovers
If you are not eligible or interested in rolling over funds from your 529 plan to a Roth IRA, you may have other options to use or transfer your excess funds without paying taxes or penalties. For example:
- You can use your 529 plan funds for other qualified education expenses besides tuition. These include fees, books, supplies, equipment, room and board (up to certain limits), computers, internet access, software, special needs services, apprenticeship programs, student loan repayments (up to $10,000 per beneficiary), and K-12 tuition (up to $10,000 per year).
- You can change the beneficiary of your 529 plan to another eligible family member who has education expenses. This includes your spouse, children, grandchildren, siblings, parents, nieces, nephews, cousins, and more. You can also split your 529 plan into multiple accounts for different beneficiaries. However, if the new beneficiary is in a younger generation than the original beneficiary, the funds may be considered a gift for tax purposes and a gift tax return filing may be required.
- You can save your 529 plan funds for future education needs. There is no time limit or age limit for using your 529 plan funds. You can keep them in the account as long as you want and use them for yourself or your beneficiaries whenever they pursue education in the future.
Michael Langdon is a tax manager and licensed Investment Advisor Representative. Michael has been with the firm since 2017 and has served as a leading member of the Financial Planning Advisory Service team since that time. Michael specializes in providing comprehensive tax and financial planning advice to help clients achieve their financial goals.
The above does not represent tax advice. Each situation is fact-dependent, and you should seek the advice of a competent advisor. GranthamPoole PLLC is a provider of tax, accounting, advisory and strategic services, partnering with clients across a broad spectrum of industries and sizes.