- A new provision allows money saved in a 529 plan to be converted into a Roth individual retirement account tax-free after 15 years, up to a limit of $35,000.
- “It becomes a no-brainer at this point,” says Marshall Nelson, a wealth advisor.
To be sure, 529 college savings plans already had a lot going for them.
Now, thanks to “Secure 2.0,” a slew of measures affecting retirement savers, they’re about to be even more attractive.
Starting in 2024, savers can roll unused money from 529 plans over to Roth individual retirement accounts free of income tax or tax penalties. Among other limitations, the 529 account must have been open for 15 years and account holders can’t roll over contributions made in the last five years. Rollovers are subject to the annual Roth IRA contribution limit, and there’s a $35,000 lifetime cap on 529-to-Roth transfers.
“It becomes a no-brainer at this point,” said Marshall Nelson, wealth advisor at Crewe Advisors in Salt Lake City.
The benefits of a 529 plan
These plans have been steadily gaining steam for a number of reasons.
In some states, you can get a tax deduction or credit for contributions. Earnings grow on a tax-advantaged basis and, when you withdraw the money, it is tax-free if the funds are used for qualified education expenses such as tuition, fees, books, and room and board, or even apprenticeship programs.
A few states also offer additional benefits, such as scholarships or matching grants, to their residents if they invest in their home state’s 529 plan.
Further, you can now put some of the funds toward your student loan tab: up to $10,000 for each plan beneficiary, as well as another $10,000 for each of the beneficiary’s siblings.
And yet, total investments in 529s fell to $411 billion in 2022, down nearly 15% from $480 billion the year before, according to data from College Savings Plans Network, a network of state-administered college savings programs.
“Last year, we saw a pretty noticeable reduction in contribution behavior,” said Chris Lynch, president of tuition financing at TIAA. Regular contributions to a 529 college savings plan took a back seat to paying more pressing bills or daily expenses.
We’re going to see a spike in 529 usage.Marshall Nelsonwealth advisor at Crewe Advisors
Plus, there was a major sticking point: Many would-be college students are rethinking their plans altogether. Some are opting out entirely or considering a local and less expensive in-state public school or community college.
Now, 529s offer more flexibility, even for those who never enroll in college, Lynch said.
“A point of resistance that potential participants have had is the limitation around, what happens if my kid gets a scholarship or decides they’re not going to college.”
In such cases, you could transfer the funds to another beneficiary, or withdraw them and pay taxes and a penalty on the earnings. If your student wins a scholarship, you can typically withdraw up to the amount of the scholarship penalty-free.
The added benefit of being able convert any leftover funds into a Roth IRA tax-free after 15 years, up to a limit of $35,000, “helps to eliminate that point of resistance,” he said.
“We’re going to see a spike in 529 usage,” Nelson predicted.
Even if someone in their mid-20s put $35,000 in a Roth IRA and just left it alone, that could be close to $1 million 40 years down the road, he said.
“It’s something I see catching on,” Nelson added. “Now they have the option to use that money to supplement retirement; that’s a huge win.”
