As of January 1, 2024, owners of 529 plan accounts can make tax and penalty-free rollovers to Roth IRA retirement plan accounts, subject to certain limitations. This has been welcome news to many families who worried about having unused or leftover funds in a 529 plan account.
These changes were included in Section 126 of the SECURE 2.0 Act, part of the Consolidated Appropriations Act of 2023 (CAA) signed into law in December 2022, but the rollover provisions only went into effect in 2024. Here’s what you need to know.
What’s Changed?
Before SECURE 2.0, 529 plan account owners or beneficiaries who wanted to withdraw funds for non-qualified education expenses would be forced to make a non-qualified withdrawal. The earnings portion of nonqualified withdrawals is subject to income tax and a 10% federal tax penalty.
With the new regulations, 529 plan account owners or beneficiaries can roll over 529 funds into a beneficiary-owned Roth IRA tax-free and penalty-free as of January 1, 2024, subject to the limitations described below. If you qualify, this can be a great way to help kick start a beneficiary’s retirement savings.
There are still some grey areas in the statute that are subject to different interpretations, and for which the 529 plan industry is awaiting further clarification and guidance. However, most 529 plans have begun processing rollover requests.
How Much Can Be Rolled Over?
The rollover amount from a 529 plan into a Roth IRA account will be subject to the Roth IRA annual contribution limits set by the IRS. The annual Roth IRA contribution limit for 2023 is $6,500 ($7,500 for those age 50 and older). For 2024 this goes up to $7,000 ($8,000 for age 50 and older).
Note that the beneficiary must have earned income equal to at least as much as the amount transferred in any year.
There’s also a $35,000 lifetime limit per beneficiary for 529 plan rollover contributions to Roth IRAs. Remember, you can’t transfer all $35,000 at one time. You can only transfer up to the annual limit each year. For example, if you have $16,500 in your account, you could transfer $6,500 for the 2023 tax year (you have until Tax Day 2024 to make a 2023 contribution), $7,000 in 2024, and the remaining $3,000 in 2025. Tax and penalty-free transfers can only be made, though, if you meet the requirements outlined below.
What Other Rules Apply to 529 Plan Roth IRA Rollovers?
Funds cannot be moved from a 529 plan into a Roth IRA without incurring penalties and taxes unless the account has existed for at least 15 years. Changing designated beneficiaries also will likely restart that 15-year clock.
Accountholders and beneficiaries cannot roll over any contributions or earnings on contributions made in the last five years. In other words, the money transferred must have been in the account for at least five years, and the amount can’t exceed your balance from five years prior.
While Roth IRA contributions are subject to annual limits, when rolling over from a 529, they’re not subject to the typical Roth IRA income limits. This means those with incomes exceeding Roth IRA income limits can contribute to a Roth IRA by rolling over unused funds from a 529 plan when they’d otherwise be ineligible to contribute.
Does it Make Sense to Convert 529 Funds to a Roth IRA Now?
Moving leftover 529 funds to a beneficiary’s Roth IRA can be a great way to help them build their retirement savings. However, there may not be a reason to rush to do so yet. In addition to unclear guidance to 529 plan managers on rules for these transfers, it’s not yet clear if all states will treat these rollovers as a qualified expense for state income tax purposes. Not all states follow the federal definition of qualified expenses for 529 plans, and in states that don’t, there could be state tax penalties caused by a 529 to Roth IRA rollover. Some states will need to to update their laws to include these rollovers as a qualified expense, others may choose not to do so.
You can find the status of your state in relation to whether or not it considers transfers to a Roth IRA a qualified expense in our 529 comparison tool. Saving for College is monitoring this information and will update it regularly as new information is released. If your state does not consider 529 to Roth IRA rollovers a qualified expense, be sure you consult the plan or your tax advisor to understand what implications there may be for you.
Remember that you always have other options for leftover 529 funds, such as keeping the funds in the 529 for graduate school, changing the beneficiary and more.
How to Move Funds From a 529 Plan to a Roth IRA
If you’re ready to move forward with a 529 to Roth IRA rollover, start by opening a Roth IRA account for the beneficiary if they don’t already have one. The beneficiary of the 529 plan must also be the owner of the Roth IRA account.
According to Virginia’s Invest529 plan website, the beneficiary must request the transfer with their Roth IRA provider. Check your own plan provider’s website or call their customer support team for more guidance on how to proceed. It’s also prudent to check in with your own tax advisor before making any changes.
The Bottom Line
529 plans have been a valuable financial tool to help families prepare for the cost of college. These new rules increase 529 plan flexibility, giving families another reason to save for college without worrying about a kid not attending college.
Though there are limits, it’s a huge step in the right direction to get families saving with 529 plans.
