Accavallo & Company, LLC

Converting a Section 529 Plan Balance to a Roth IRA

Roth IRA to 529 Plan

In December 2022, Congress passed the SECURE 2.0 Act, bringing exciting changes to Section 529 plans that can make you rethink how you save for your child’s education. If you’ve been wondering about the best way to prepare for educational expenses while ensuring flexibility and tax advantages, the new 529-to-Roth IRA conversion rule might be the answer.

What’s Changing?

Starting in 2024, you’ll have the opportunity to convert up to a lifetime limit of $35,000 from a 529 plan to a Roth IRA owned by the 529 beneficiary. This conversion is entirely tax- and penalty-free, provided that the Roth IRA has been held for at least 15 years. However, there’s a catch – the conversion is subject to annual Roth IRA contribution limits, which means you can’t transfer the full $35,000 all at once.

For instance, in 2023, the Roth IRA contribution limit stands at $6,500 (for individuals under 50) or earned income, whichever is less. So, it will take several years to maximize the $35,000 potential transfer.

Watch Out for the 15-Year Clock

One essential thing to remember is that if the 529 account owner (usually a parent) changes the beneficiary of the 529 plan at any point, this could potentially restart the 15-year clock. So, strategic planning is crucial.

Exceptions and Limitations

Contributions made within the past five years (and any earnings on those contributions) are not eligible to be moved into the Roth IRA. It’s important to consider these limitations when devising your education savings strategy.

529 Plans vs. Roth IRAs

Is it better to open a 529 plan or a Roth IRA? Here’s a quick breakdown:

Roth IRA Advantages:

Maximum investing flexibility.

A wide range of investment options.

No restrictions on how the funds can be used, which provides flexibility for other financial goals.

529 Plan Considerations:

Tailored specifically for education expenses.

Limited investment options, often tied to funds.

Penalties and taxes on non-qualified withdrawals.

Real-Life Scenario

Imagine this scenario: Mary opens a 529 account for her son David when he is three years old. She contributes to the account for 15 years. At age 18, David enters college. Mary continues to contribute to the account while David is in college. When David graduates, there is still money left over in the 529 account.

Because the account has been open for at least 15 years, David is eligible to roll over funds from the 529 account to a Roth IRA in his name. He can roll over an amount up to the annual Roth IRA contribution limit, provided he doesn’t transfer any contributions made to the 529 account in the past five years. David can continue rolling over funds from the 529 plan to the Roth IRA, either consecutively or intermittently, until he reaches the $35,000 lifetime limit.

In summary, the new 529-to-Roth IRA transfer rule offers a great opportunity to remove the guesswork from educational savings. It grants greater flexibility and tax advantages, allowing you to adapt your financial plan to your child’s evolving needs. This removes the fear of overfunding your 529 plan and embrace the freedom to secure your child’s educational future.

If you need additional information, please contact us at Accavallo & Company for further consulting, office at (203) 925-9600 or [email protected].