The Savings Game: Rolling over funds from a 529 plan to a Roth IRA

One of the many changes introduced by the SECURE 2.0 Act late last year was a provision allowing tax-free rollovers from 529 college savings plans to Roth IRAs.

Many financial advisers and 529 beneficiaries are looking at this option to determine its advantages and limitations. IRA expert Ed Slott has taken a close look at it. Below I’ll discuss his observations.

529 plan basics

The primary advantage of 529 plans is that they are a tax-advantaged means to save for qualified higher education expenses. When 529 owners (let’s call them “donors” to avoid confusion) contribute funds to these plans, the contributions are not deductible for federal taxes. (However, some states do offer deductions.)

Because there is no deduction for contributions, donors can withdraw the contributions with no federal tax or penalty. However, any earnings withdrawn that are not used for qualified educational purposes are subject to income tax on a pro rata basis and a 10% early distribution penalty. The penalty can be waived if the withdrawal results from the plan beneficiary’s death, or if the beneficiary received a tax-free scholarship or other tuition benefit.

Qualified higher education expenses generally include tuition, fees, books, supplies, and room and board. In addition, up to $10,000 per year of K-12 tuition and up to $10,000 lifetime of student loans can qualify.

Some 529 plans end up accumulating more funds than are necessary, perhaps because the beneficiary does not attend college or because he or she has earned a scholarship. That’s what makes the new provision allowing rollovers of those funds important.

Rollover limits

Source:

Raphaelson, E. (2023). The Savings Game: Rolling over funds from a 529 plan to a Roth IRA. Tribune Content Agency, LLC. https://tribunecontentagency.com/article/the-savings-game-rolling-over-funds-from-a-529-plan-to-a-roth-ira/