529 Plan Overview
A 529 plan, also known as a Qualified Tuition Program (QTP), is a tax-advantaged savings plan designed to encourage saving for future education costs. Those plans typically offers tax free growth, and sometimes the contribution can be deducted for state tax purpose, if contributions are eventually used for a designated beneficiary’s qualified higher education expenses. For withdrawals that are not used for qualified higher education expenses (i.e. non-qualified distributions), the earnings portion would typically be taxable and subject to 10% federal tax penalties, with few exceptions.
Rollover to Roth IRA
Recent legislative changes have introduced the possibility of rolling over funds from a 529 plan to a Roth IRA. The Roth IRA has to be under the beneficiary’s name. This is a significant development as it provides a great alternative use for 529 plan funds if they are not needed for educational expenses.
Conditions for rollover
- The 529 plan must have been opened for at least 15 years before the rollover
- The rollover is limited to contributions made to the 529 plan more than five years before the date of the rollover
- The lifetime limit for such rollovers is $35,000, and annual rollovers cannot exceed the annual Roth IRA contribution limit
- For 2025, the annual contribution limitation is $7,000 per person for those under 50 years old.
- The rollover must be a direct trustee-to-trustee transfer
- IRA contributions typically require sufficient earned income. At this time, IRS has not provided guidance on whether sufficient earned income is required for 529 conversions to Roth IRAs.
If the above conditions are met, the rollover from a 529 plan to a Roth IRA is not treated as a distribution for tax purposes, meaning it does not trigger income tax or penalties typically associated with non-qualified distributions from a 529 plan.
Other things to consider
Consider Beneficiary’s Income: While the rollover to a Roth IRA is not limited by the beneficiary’s income, it is essential to consider the overall financial and tax situation of the beneficiary.
Plan for Future Contributions: If planning to maximize the rollover, ensure that contributions to the 529 plan are made well in advance to meet the five-year contribution requirement of a Roth IRA.
Contribute in installments: due to the annual limitation of Roth IRA contribution, the 529 plan unused balances can be rolled over to a Roth IRA in a course of several years.
Deadline for rollover
The deadline for the rollover to be counted as 2024 contribution to a Roth IRA, the rollover must have occurred before April 15,2025.
We will inform you when there is more guidance issued by the IRS about this subject. In the meantime, we recommend you talk to your tax advisors before making any rollovers.
Sources
2. Portfolio 450-2nd: Tax-Exempt Organizations — Organizational and Operational Requirements, V. Other Tax-Exempt Organizations, I. Section 529: Qualified Tuition Programs (Bloomberg Tax)
3. Tax Practice Series: Gift Taxation, Explanation, ¶6320.06.G. Contributions to Qualified Tuition Programs (§529 Plans) and Coverdell Education Savings Accounts (Bloomberg Tax)