529 Plans Can Be Rolled Over to a Roth IRA | Robby Lewis
Gerber Kawasaki Wealth & Investment Management
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529 Plans Can Be Rolled Over to a Roth IRA
Robby Lewis
When it comes to saving for education, 529 plans offer wonderful tax-advantaged options. These plans not only help families set aside money for future educational expenses, but they also come with significant tax benefits that can make a substantial difference over time. In this article, we'll explore how 529 plans grow tax-free, the recent rule allowing for a rollover of up to $35,000 into a Roth IRA, and how this can further enhance tax-free growth for the plan's beneficiary.
What is a 529 Plan?
A 529 plan is a tax-advantaged savings plan designed to encourage saving for future education costs. Named after Section 529 of the Internal Revenue Code, these plans are sponsored by states, state agencies, or educational institutions. They come in two main types: college savings plans (investment accounts that grow based on market performance) and prepaid tuition plans (allowing you to lock in tuition rates at participating schools).
Tax-Free Growth of 529 Plans
One of the most compelling features of a 529 plan is its tax-free growth. Contributions to a 529 plan are made with after-tax dollars, meaning they are not deductible on your federal income taxes. However, some states offer contributions to be state tax deductible. Check with your state’s plan to see if you benefit from a state tax deduction. The earnings on these contributions grow free as long as the money remains in the plan. When funds are withdrawn to pay for qualified education expenses—such as tuition, room and board, books, and other related costs—they are also tax-free.
This tax-free growth can be substantial, especially if you start saving when your child is young. For example, if you contribute $5,000 per year for 18 years and the plan earns an average of 8% annually, you could accumulate just over $200,000—much of which could be earnings that are completely tax-free when used for education.
Rolling Over 529 Funds to a Roth IRA
A significant new provision in the Secure Act 2.0, passed in December 2022, allows for the rollover of 529 plan funds into a Roth IRA for the beneficiary. This provision addresses a common concern among parents: what happens if the child doesn’t need all the money saved in the 529 plan?
Under the new rule, you can roll over up to $35,000 from a 529 plan to a Roth IRA for the beneficiary over their lifetime. This is a major benefit because it allows any unused education savings to continue growing tax-free in the beneficiary’s retirement account.
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Key Rules for the Rollover:
The Power of Tax-Free Growth in a Roth IRA
Once the funds are rolled over into a Roth IRA, they benefit from the same tax-free growth that 529 plans offer. Contributions to a Roth IRA are made with after-tax dollars, and the money grows tax-free. Withdrawals in retirement are also tax-free assuming they wait until 59.5 to begin withdrawing. For the beneficiary, this means they can potentially enjoy decades of tax-free growth, making the initial 529 plan savings an even more powerful tool for building long-term financial security.?
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Robby Lewis is a Financial Advisor of Santa Monica, California-based Gerber Kawasaki Inc., an SEC-registered investment firm with approximately ~$2.6B billion in assets under management as of 12/31/23. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which course of action may be appropriate for you, consult your financial advisor. No strategy assures success or protects against loss. Readers shouldn't buy any investment without doing their research to determine if the investments are suitable for their situation. “All investments involve risk and one should consult a financial advisor before making any investments. Past performance is not indicative of future results.