You can now move any money left over in your 529 college savings plan to a Roth IRA — but should you?

The 529 to Roth IRA transfer opportunity

If you’re like 55-year-old Houston resident Aaron Benner, whose son earned a scholarship, you might end up with some extra funds in your 529 plan. The tech consultant told The Wall Street Journal that he expects to have about $20,000 left over in his 529 plans for each of his three sons. He’s thinking of taking advantage of the new rule and rolling these excess funds into Roth IRAs for his sons, who “won’t have pensions.”

A Roth IRA is a retirement plan that lets you make after-tax contributions that grow tax-free. They come with annual contribution limits determined by your age and income and you can start making tax-free withdrawals, under certain conditions, after age 59 1/2.

If Benner were to withdraw funds from his 529 plan instead of rolling them into a Roth IRA, he would likely pay income tax on the earnings, but not on the contributions (since they were made with after-tax dollars). He’d also pay a 10% penalty because the withdrawals were not made for eligible expenses.

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Understanding the new rules

Thanks to new rules set out in the Setting Every Community Up for Retirement Enhancement (SECURE) 2.0 Act of 2022, unused 529 funds can be transferred to the 529 beneficiary’s Roth IRA account. This is typically tax-free, within a certain limit, but some states may tax the withdrawals if the contributions to the fund receive a tax break.

To qualify, the account needs to be open for at least 15 years. However, it’s not yet clear if the clock is reset if the 529 is transferred to another beneficiary, which is another option for unused funds. The funds must be transferred directly and can’t come from contributions made to the 529 plan in the past five years.

The maximum amount that can be rolled over into a Roth IRA from a 529 plan is $35,000 per beneficiary, per account. But, for 2024, the total contribution can’t exceed $7,000 per beneficiary under 50. That means Benner can only roll $7,000 into each son’s Roth IRA per year. Also, the beneficiary must have earned at least as much income as the amount that is transferred.

Rolling 529 funds into a Roth IRA can give the beneficiary a head start on retirement savings, with benefits like tax-free growth, flexible investment options and no required minimum distributions in retirement. However, if the beneficiary later needs to use the Roth IRA for education expenses — like retraining or advanced studies — any withdrawals after the rollover will be subject to taxes and penalties.

If you’ve been building a 529 plan for your child or grandchild, you’ve probably made sacrifices to build it up, so it’s good to know there are now more options for those funds. Just keep in mind that the rollover will count against Roth IRA contribution limits, so it could be a good idea to talk to a financial planner before making a decision.