It’s back to school season!
No, this is not the dreaded late-summer ad for school supplies that reminds you that fall and pumpkin-spiced everything will be here soon.
As many of our clients are getting ready to send their kids back to K-12 or drop off college students at their dorms, we wanted to take a moment to give the community an important update on college savings and 529 accounts.
What’s a 529 account? Here is a 101-level crash course on 529 accounts. They are tax-advantaged accounts designed to help you save for qualified education expenses. Contributions are not federally tax-deductible, but many states offer additional tax incentives. These plans offer tax-free growth on earnings and tax-free withdrawals when used for eligible educational costs. This can include vocational schools, college, advanced degrees, and some states allow the money to go toward private K-12 education.
With that as a foundation, here is the important update: Starting in 2024, the SECURE Act 2.0 adds a feature allowing 529 account holders to transfer up to a lifetime limit of $35,000 to a Roth IRA for a beneficiary. This might come as a relief to anyone worried about having excess funds stuck in a 529, should the intended beneficiary not need them (for example, if they opt not to attend college or choose a lower-cost school). This is because nonqualified withdrawals are typically subject to ordinary income tax plus a 10% withdrawal penalty on any earnings.
Before you decide to immediately start overfunding your 529 account, remember that anything involving the IRS comes with strict rules. We are still waiting for further guidance from the IRS, but here are the requirements and limitations as we know them today:
- You need to have owned the 529 account for at least 15 years before you can execute a rollover.
- 529 contributions made to the plan in the last five years before distributions start – including the associated earnings – are ineligible for a tax-free rollover.
- The lifetime 529 to Roth IRA rollover limit is $35,000.
- The annual Roth IRA contribution limits apply to 529 to Roth IRA rollovers as well. So, if you wanted to roll over the entire $35,000 lifetime limit amount, under the current contribution limits you would have to do so over six years.
Overall, this new provision gives savers more flexibility, which is a good thing! That said, based on the restrictions, it’s likely best treated as a backup option rather than a primary retirement-saving strategy.
Whether or not it’s right for you depends on your individual situation, and we are here to help. If you have questions on this topic or would like to discuss how it could potentially fit into your plan, a member of the High Note team would be happy to assist anytime!
