You Can Now Transfer Unused 529 Funds to Your Child’s Roth IRA
Investing in 529 College Savings Plans has always been risky. What if your child doesn’t need all the money you’ve saved? If their tuition turns out to be cheaper than they expected, or they decide not to go to college at all, what will happen to all the money tied to your education savings account ?
Under current rules, the remaining 529 funds must be used to pay for education expenses, otherwise they will be forfeited and subject to a 10% penalty and federal income tax on earnings (and not on the contributions themselves). However, next year a new rule means that any remaining college funds can indeed be salvaged without penalty. Here’s what you need to know about the important rule change in 529 plans and how it will affect your savings for your child.
New Change to Plan 529 Rules
Starting in 2024, unused funds from the 529 plan can be transferred to a Roth IRA for the account beneficiary without penalty. This new tax-free rollover rule – part of SECURE 2.0 – means you don’t have to worry about the current 10% penalty on profits if you have money left over. You will be able to roll over up to $35,000 from your 529 savings. Of course, the amount you can roll over also depends on the annual Roth IRA limits . (For reference, the 2023 contribution limit is $6,500.)
USAToday provided a few numbers to illustrate how important this rule change could be: “Let’s say you moved your $35,000 lifetime limit out of a $529 Roth IRA by the time your child graduates from college at age 22. By the time your child reaches 67, retirement age, that will rise to $1.6 million, based on a 9% annual compound growth (historically, the S&P 500 has returned about 10% each year).” This is the magic of compound interest .
Fine print for this new rule
Now for the fine print: you must have held a 529 Educational Savings Account for at least 15 years before you could roll over the money, and you can only roll over money that has been in the account for five years or more. And the account holder (usually the parent or guardian of the child) cannot transfer the money to their own Roth IRA—it must be an account created specifically for the 529 plan beneficiary.
However, the removal of the 10 percent penalty means more flexibility for 529 plans and less fear that those funds will be wasted. The rule change should encourage parents to invest in 529 plans for their young children now, or perhaps take a closer look at their existing plans.
If you’re a parent looking to create this college savings tool, start exploring online tools to help you compare offers across different plans across states. Here is our guide to opening 529 for your child .