Secure Act 2.0 Allows Roth Conversion for Unused 529 Savings
The Secure Act 2.0 provided some significant changes and additions for Roth IRAs and 529 Plans. For individuals or couples and those who work with individuals or couples’ finances, these changes and additions are worth knowing.
First, let’s revisit how a 529 plan works.
A 529 plan is a college savings plan. These plans are run through individual states and provide tax benefits. Some 529 plans are prepaid tuition plans, but the majority of 529 plans are simply savings plans.
Here’s some important information that you need to know about 529 plans:
- A person can choose any state’s plan. So, you are not stuck with your home state’s college savings options. And this is good news because other states may offer a better plan.
- A person places after-tax dollars into the 529 plan, invest it, and then pull out the funds tax free for educational purposes.
- Contribution limits are usually extremely high, but individuals will want to check with the state’s plan for specific limits.
- Withdrawals must be used for qualified educational purposes. These expenses include tuition, books, room and board, computer, and internet.
- If beneficiary decides not to go to college (or doesn’t use all of the funds), plan owners can switch beneficiaries. Beneficiaries can be any qualified family member--spouse, child (or stepchild), sibling (or step-sibling), father (or stepfather), mother (or stepmother), first cousin, niece, nephew, aunt, uncle, father-in-law, or mother-in-law.
- Individuals can also use a 529 plan to cover K-12 educational expenses, up to $10,000 per year.
There is now an additional answer for the common 529 plan question “What if my child gets a scholarship or decides not to attend college?” Up until the Secure 2.0 Act, the answer was to either change beneficiaries or withdraw the funds and get hit with income taxes and a ten percent penalty. Now, there is another option.
In 2024, 529 owners can rollover their 529 savings to a beneficiary’s Roth IRA. This is significant. Here’s some important caveats to understand:
- The rollover must be for the beneficiary. The funds are not for the owner’s Roth IRA.
- The 529 Plan must have been opened for 15 years.
- Contributions and earnings that are less than 5 years old, cannot be rolled into the Roth IRA.
- Rollovers are still subject to the Roth IRA contribution limit.
- There is a $35,000 lifetime transfer limit.
Further clarification of the new rule will likely be released in the future. This addition will play a role in an individual’s decision whether to use a 529 plan for their college savings. This will also allow account owners another option to direct funds to their loved ones.