Broker Check
Can You Rollover 529 funds into Roth IRA? Yes!  You Can!

Can You Rollover 529 funds into Roth IRA? Yes! You Can!

January 03, 2024

The SECURE 2.0 Act allows savers to roll unused 529 funds into the beneficiary's Roth IRA without a tax penalty. 

What are the benefits of rolling over to a Roth IRA?

529 accounts are an established way to help kids and other family members save for college. And now it turns out you might be able to use leftover 529 funds to help them save for retirement as well.

 Money you invested in a 529 grows tax free, but if money isn’t withdrawn for qualified educational expenses, you’ll incur a 10% penalty.  But what if a scholarship is granted to your child or they decide not to attend college at all.  And suddenly you are left with tens of thousands in a 529 account? 

 The Secure Act 2.0 Section 126 amends the Internal Revenue Code to allow for tax and penalty free rollovers from 529 accounts to Roth IRAs, under certain conditions. Beneficiaries of 529 college savings accounts would be permitted to rollover up to $35,000 over the course of their lifetime from any 529 account in their name to their Roth IRA. These rollovers are also subject to Roth IRA annual contribution limits, and the 529 account must have been open for more than 15 years.

 This might come as a relief to anyone worried about having excess funds stuck in a 529 and avoid the hesitation, delaying, or declining to fund 529s to levels needed to pay for the rising costs of education. Section 126 will provide families and students with the option to avoid the penalty, resulting in putting more into their 529 account. Families who sacrifice and save in 529 accounts should not be punished with tax and penalty years later if the funds are not used as intended. They should be able to retain their savings and begin their retirement account on a positive note.

What are the limits?

Before decisions are made for the $35,000 in their 529 accounts, it's important to understand the limitations on this type of rollover:

  • Holding periods. You need to have owned the 529 for at least 15 years before you can execute a rollover. Contributions made to the 529 plan in the last five years before distributions start—including the associated earnings—are ineligible for a tax-free rollover.
  • Annual limits. Your rollover can't exceed the annual Roth contribution limit, which in 2023 is $6,500. So, if you wanted to roll over the entire $35,000 lifetime limit amount, you would have to do so over six years under the current contribution limits. (Though, the Roth contribution limit could rise in the future, allowing you to do larger rollovers.)
  • Ownership. The beneficiary of the 529 plan must also be the owner of the Roth IRA, and they must have earned income at least equal to the amount of the rollover.

These are just the rules set forth by the legislation. It's possible the IRS could interpret the law differently when it comes time to implement it. And there are still some questions unanswered; for example, if a beneficiary is changed does this trigger a new 15 year holding period.  Nor is it clear who would be responsible for any penalties should a rollover fall afoul of the rules.  That's not to say you shouldn't consider taking advantage of this new provision if you find yourself with unused 529 assets.

What you can do

  • If you already have a 529 plan. Nothing can be done until 2024, and much remains to be clarified. If you're thinking about making yourself the beneficiary of that 529 to get around Roth IRA contribution rules, you should wait until we get final rules about the lifetime contribution amount and 15-year holding period. Switching the designated beneficiary may not make any sense.
  • If you're planning to open a 529 for your children, consider funding different accounts for each child—but don't assume you'll also be able to transform these assets into Roth assets with a future rollover. Without additional clarity from the IRS on how the 15-year rule will work, it is better to err on the side of caution. If it turns out that you can switch 529 beneficiaries without having to wait 15 years for a rollover, you can always adjust your funding strategy.
  • Consider opening a Roth IRA for the beneficiary. Regardless of how the IRS interprets the law, you could still take this opportunity to contribute to a child's Roth IRA if they have earnings. This will get them started on their retirement savings at a time when their personal income tax rate is likely to be low. And it's more efficient to contribute directly instead of taking a detour into a 529.
  • If you're concerned about the assets in an overfunded a 529 plan, you already have other options. As noted, parents can switch designated beneficiaries at any time and continue using a 529 account for qualifying educational purposes. Plus, up to $10,000 of 529 plan funds can be used to pay off qualifying student loans. Finally, if the child earns a tax-free scholarship, parents can take an equivalent amount out of the 529 plan without the 10% penalty (though the earnings portion of the distributions will be taxable).

Overall, converting to a Roth IRA may ultimately help you save money on income taxes. If you expect your income level to be lower in a particular year but increase again in later years, you can initiate a Roth conversion to capitalize on the lower income tax year and then let that money grow tax-free in your Roth IRA account along with an array of investment choices such as stocks, bonds, cds, etfs and mutual funds that will meet your retirement goals and risk tolerance.  See if a Roth IRA conversion is right for your own financial situation.  At the very least this new provision gives savers another way to put their 529 assets to work. But it's probably best to treat a 529-to-Roth rollover as a potential backup option, rather than a retirement-saving strategy unto itself.