529 Plan Accounts Become More Attractive
As discussed in previous Articles on Wealth Management Topics, current stock market valuation indicators can be useful inputs into financial projections that require assumptions about future portfolio returns. Retirement projections certainly fall into this category, but so do education funding projections, i.e. analyses to determine how much to periodically set aside in future years in dedicated accounts to meet the projected expenses of a child's education.
529 plan accounts are frequently used as tax-efficient and cost-effective vehicles for these education funding purposes. But some parents and grandparents remain reluctant to use them, or to contribute to them as much as they could, out of fear that these accounts may become overfunded. And this is a fear that is somewhat justified, since the earnings portion of a 529 account distribution not used for qualifying education-related expenses is subject to taxation plus a 10% federal tax penalty.
Many 529 account owners are able to sidestep these taxes by changing the account's beneficiary to a sibling, or to other members of the family (including themselves), who may still incur education-related expenses. But this isn't always a viable option when the child decides not to pursue higher education or attends a cheaper-than-expected college.
Happily, starting in 2024, there is another solution for unused 529 account balances. Thanks to the SECURE 2.0 Act, up to $35,000 of a 529 account balance may be rolled over tax-free into a Roth IRA in the name of the beneficiary. These rollovers are subject to the annual Roth IRA contribution limits ($7000 in 2024), the 529 account must be open for 15 years before these rollovers are permitted, and 529 account contributions made in the prior 5 years cannot be rolled over.
Despite these restrictions, being able to rollover a 529 account balance into a Roth IRA in the name of the account beneficiary (typically a child or grandchild of the account owner) should make these accounts much more popular. 529 account contributions can now be viewed as a way to help fund a young person's education and/or to jumpstart their retirement savings. And young people are exactly who should be contributing to Roth IRA's, yet so few have the excess cash flow or earned income to do so.
About the Author
Paul Winter, MBA, CFA, CFP® is a Fee-Only financial advisor and fiduciary in Salt Lake City, UT. His independent wealth management firm, Five Seasons Financial Planning, provides professional portfolio management and objective financial planning services to individuals and families, and to their related entities including trusts, estates, charitable organizations, and small businesses.