529 to Roth IRA Rollovers and Other Changes for College Savers
Three major changes are in effect for 529 education saving plans, and they help address questions parents and grandparents have had in the past. See what’s new.
Key Takeaways
529 plans offer several benefits for education, and now they have even more flexibility for savers with recent changes.
With new 529 to Roth IRA rollovers, parents have another option if their child doesn’t go to college or receives scholarships.
Other 529 benefits for students include student loan repayment opportunities and no more student aid consequences if grandparents contribute.
What happens if my kid doesn’t go to college? Or gets a scholarship? Can we pay for student loans with a 529? How will grandparents funding a 529 help or hurt a student’s chance for financial aid? These questions now have answers with newer provisions from the IRS, two of which became effective in 2024.
Financial consultants Zachary Roth and Addison Schubert discuss the changes and how to use them to your advantage.
New 529 Features Add More Flexibility for Savers
Three recent features for 529 education savings plans make saving more flexible. And they help alleviate concerns you may have about investing in a 529 and the “what ifs” that may happen in the future. Here’s how the plans are more flexible, adding to the benefits 529s already offer:
1. 529 to Roth IRA Rollovers
Of the three 529 changes we discuss here, Addison says this one is key. “Parents want to help fund their child’s education, but the big question has been, what if they don’t end up needing the money? What then?”
Some parents have wondered what will happen to the 529 funds if the child doesn’t end up going to college or if they get a partial or full-ride scholarship. With this new provision, 529 funds up to $35,000 can be rolled into a Roth IRA in the student’s name.
“Previously, the options were to change the beneficiary on the 529 to a family member with no tax implications or withdraw the money—with consequences,” says Zachary. Taking out the earnings for non-qualified expenses is taxable at the federal and state level and comes with a 10% penalty. “Now, parents have a new strategy to help their child start saving for retirement, with no penalties.”
To be eligible to roll over funds from a 529 to a Roth IRA, you have to have had the 529 account for 15 years.
You can roll over up to $35,000 into the Roth IRA.
No contributions or earnings on contributions from the last five years can be transferred.
The transfers are subject to annual Roth IRA contribution limits ($7,000 for 2024), but there is no upper income constraint.
“The rollover to Roth IRA option’s 15-year guideline makes it another good reason not to put off saving in a 529 account if you’re thinking about it,” says Zachary.
2. 529 Funds for Student Loans
Another option for leftover 529 funds is to use the money to pay down student loans. Starting with the first SECURE Act rule change in 2019, student loan payments are now considered a qualified education expense. You can use up to $10,000 from a 529 account to pay a student loan for the beneficiary of the account or their siblings without changing the beneficiary on the account.
“This is good news for parents who have a 529 but have also needed to supplement with student loans,” says Zachary. If you have more than one child, you can use leftover money in the one student’s account to help pay off a loan for another sibling.
Should you continue paying into a 529 while your child is in college to help pay off student loans after they graduate? “That depends,” says Addison. “You’d have to look at the interest rate on the student loan. If it’s a low rate, you could put the money into the 529, make the minimum payments on the loan and then pay it off with the 529 later. You would need to weigh how you expect your investment may perform against the student loan rates.”
You can pay up to $10,000 (lifetime total per borrower) toward student loans.
Student loan payments can be made for the beneficiary or sibling of the beneficiary, so a family with two children can pay up to $20,000 toward student loans.
3. The 529 ‘Grandparent Loophole’
A third change to 529s that makes them more appealing is that contributions from grandparent-controlled 529 plans will no longer count against the student for financial aid. Previously, if a grandparent helped pay for college from a 529, the amount was reported as untaxed student income. This had the potential to reduce financial aid eligibility by up to 50% of the amount.
So if a grandparent gave $10,000 from a 529 to help a student pay for college, $5,000 of that was counted as income on financial aid forms. Today, that no longer exists. Income on the Federal Application for Federal Student Aid (FAFSA) form now only asks for student earnings from federal income tax returns.
“I’ve had previous conversations with grandparents about whether their contributions would impact their grandchild’s financial aid eligibility,” says Addison. “This is good news for both the grandparents and the student when applying for assistance.”
A lot of grandparents look for ways to help their grandkids save for the future, and a 529 can be a really good fit. Zachary says, “Many use their required minimum distributions to help fund education.” He says it’s a good plan if grandparents don’t need the money for their annual expenses.
Grandparents can use a 529 to contribute to a grandchild’s education without impacting financial aid.
Previously, the money was reported as untaxed student income, reducing financial aid eligibility by up to 50%.
New Features Add to Overall 529 Benefits—And Break Down More Barriers
“These new features are removing more roadblocks for people to invest in 529s for college,” says Addison. Rollovers to Roth IRAs, the ability to pay for student loan debt and the grandparent loophole add to other flexible features 529s have had from the start—and others that have been added along the way.
Some of those changes include the ability to use 529 funds to pay for K-12 private school tuition and trade schools, as well as the ability to use 529 funds for more than college tuition, such as room and board, books and computers.
“Plus, there’s always the tax benefits you can receive with a 529 plan,” says Zachary. Saving on state taxes on contributions in some states, having investments grow tax-deferred and being able to withdraw funds tax-free for qualified education expenses have drawn parents to 529s in the past. “Now these new features serve to make 529s even more appealing.”
Still, some parents may have questions about investing in a 529. Here are a few other concerns we hear from clients:
Am I Limited to My State’s 529 to Get Tax Breaks?
“It depends on which state you live in,” says Zachary. Currently, nine states offer tax parity, meaning you can invest in a 529 from any state and still receive tax deductions. Those states are:
Arizona
Arkansas*
Kansas
Maine
Minnesota
Missouri
Montana
Ohio
Pennsylvania
*Arkansas also offers a state income tax deduction for contributions to 529 plans from other states; however, this deduction is less than the deduction for contributions made to Arkansas-based 529 plans.
Does My Child Have to Attend College in the Same State as the 529?
No. 529 plans are sponsored by states, but it doesn’t matter which state your child attends public, private or trade school.
What If I Don’t Have Enough Money to Invest for College?
The obstacle of not having enough money to invest may always be a concern for parents. “But you can also start with a minimal amount in most 529s,” says Addison. Even small amounts can add up.
He says, “It’s why we encourage investors to start as early as you can. But even if you can’t, don’t discount saving in a 529 when your kids are older and even through college to help cover the costs. Every bit helps.”
Zachary agrees. "With the additional features of 529s today, the biggest roadblock now is that people may not have heard about the flexibility they can get with a 529.”
Authors
Zach Roth, CFP
Addison Schubert
The opinions expressed are those of American Century Investments (or the portfolio manager) and are no guarantee of the future performance of any American Century Investments' portfolio. This material has been prepared for educational purposes only. It is not intended to provide, and should not be relied upon for, investment, accounting, legal or tax advice.
The availability of tax or other state benefits (such as financial aid, scholarship funds and protection from creditors) may be conditioned on meeting certain requirements, such as residency, purpose for or timing of distributions, or other factors.
You could lose money by investing in a mutual fund, even if through your employer's plan or an IRA. An investment in a mutual fund is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency.
Please consult your tax advisor for more detailed information regarding the Roth IRA or for advice regarding your individual situation.
Taxes are deferred until withdrawal if the requirements are met. A 10% penalty may be imposed for withdrawal prior to reaching age 59½.
IRS Circular 230 Disclosure: American Century Companies, Inc. and its affiliates do not provide tax advice. Accordingly, any discussion of U.S. tax matters contained herein (including any attachments) is not intended or written to be used, and cannot be used, in connection with the promotion, marketing or recommendation by anyone unaffiliated with American Century Companies, Inc. of any of the matters addressed herein or for the purpose of avoiding U.S. tax-related penalties.
This information is for educational purposes only and is not intended as tax advice. Please consult your tax advisor for more detailed information or for advice regarding your individual situation.