I usually treat tax law changes like Cocomelon - If I ignore them long enough, maybe I can get away with never learning anything about them.
However, the SECURE Act 2.0 provisions in the recently passed Omnibus Spending bill have some good stuff in it for parents. Specifically, parents of children who may go to college some day.
I am a big fan of 529 plans. The most frequent question clients ask about 529s is “What happens to the money if my kids don’t go to college?”
As we wrote back in June 2022, there was a provision in the bipartisan Helping Parents Save for College Act that would have allowed parents to roll money from a 529 into a Roth IRA. That bill was never passed. This 529 to Roth IRA transfer provision made it into the Omnibus Spending Bill, which passed in December.
Starting in 2024, people can transfer unused 529 funds directly into a Roth IRA.
This eliminates the biggest hurdle for people to use 529 plans and their tax-advantages to save for college. You no longer have to worry about having a huge chunk of cash trapped or face potential taxes and penalties on the profits.
There are a few catches. There is also some vague language that needs to be clarified by appropriate government agencies. That means everything is subject to change. There will likely be some administrative headaches along the way. However, it’s encouraging progress toward preventing a financial penalty if a child chooses not to go to college.
The details on transferring unused 529 funds
The 529 plan must be at least 15 years old. If you started the account in 2020, you won’t be able to transfer money to the Roth until 2035. Luckily, the money being transferred doesn’t have to be in the account for 15 years. You could establish a 529 with whatever your state’s minimum investment is. This will start the clock to give you maximum flexibility later.
The money being transferred must be in the account for 5 years before transferring to a Roth IRA. If you started the 529 in 2020 with the Colorado minimum of $25. That $25 and its gains could be transferred to a Roth IRA in 2035, when the account is 15 years ago. If you also contribute $10,000 to the 529 in 2033, you couldn’t take that investment and its associated profits out until 2038 when that $10,000 had been in the account for 5 years.
Transfers are limited to a $35,000 lifetime maximum to the beneficiary. This makes the transfer a nice outlet valve for unused 529 funds. However, if a 529 has accumulated enough money to pay for a full undergraduate education, this transfer won't provide full use of the saved funds. It also doesn’t make a 529 plan a full replacement for making Roth contributions.
The Roth IRA must belong to the beneficiary of the 529 plan. Fun side note, you can change the beneficiary on a 529 at any time. For example, Homer and Marge have a $100,000 529 plan for Bart. Bart obviously isn’t going to college. They can transfer $35k to Bart’s Roth IRA (assuming he has a job) over a couple years. The 529 now has $65k in it. Then, they can change the beneficiary of the 529 to Homer, transfer $35,000 into Homer’s Roth IRA, leaving $30k. Then they can make Marge the 529’s beneficiary and transfer the remaining $30k into her Roth IRA. Yes, the easier move would be to make Lisa the beneficiary and use the 529 plan to fund her inevitable grad school. I’m using The Simpsons as an example. Cut me some slack.
The transfer is subject to IRA contribution limits, less any contributions made. In 2023, the IRA contribution limit will be $6,500. If someone contributes $2,000 to their IRA during 2023, they would be limited to $4,500 of 529 transfer in 2023. Of course, you can't transfer until 2024 even if you fulfilled all the other criteria. This is just for discussion purposes.
Further Reading: For a more detailed analysis of the other provisions, I recommend this article on the SECURE Act 2.0 provisions. Jeff Levine’s analysis is high quality.
Kevin Shuller is the Founder/CIO of Cedar Peak Wealth Advisors. This post is for informational purposes only and is not intended as financial advice.