The New and Improved 529 plan

As the calendar turns towards fall, it is natural to think about the young people in our lives heading back to school.   With that in mind, we wanted to spend a few minutes talking about the new and improved 529 plans.  The SECURE Act made some significant changes that alter how these accounts can be used.  

Watch Now: The New and Improved 529 Plan

What Has Changed

Before the Secure Act 2.0, There were many concerns about what to do with any balances in 529 accounts if they weren't used for education expenses.  Taking distributions for non-qualified expenses (meaning not used for education) meant the distributions could be subject to taxes and penalties.  Often times that money would get "stuck" in those accounts until other strategies could be considered.  The biggest way to avoid the penalties for the assets remaining in these accounts was to rename the beneficiary who may use the funds.

Here is how the Secure Act 2.0 changed things.  Now unused balances can be transferred to a Roth IRA if the funds are not used for educational purposes.  There are some very specific rules for these transfers.

Changes the Thought Process

We often discuss two primary types of accounts when setting aside funds for children.  529 plans and Uniform Gifts/Transfers to Minors.  Both have tax benefits but the benefits are different.  The UTMA or UGMA accounts do not have the same restrictions for the use of the funds, so those accounts are often used if there is a desire for flexibility for the end use of the money.  

With the ability to transfer some of the funds from an unused 529 Plan to a Roth IRA, this can change some of the thinking behind it. Using those remaining balances to give a young person a boost to their retirement savings can be beneficial in the future.

Know the Rules

There are some very specific rules when it comes to transferring assets from a 529 plan to a Roth IRA.

• The Roth IRA owner and 529 Plan beneficiary must be the same person.
• The 529 account must have been open at least 15 years before the transfers can take place.
• The funds being transferred have to have been in the 529 account for at least 5 years before the transfer happens.
• All transfers are subject to the Roth IRA contribution limits.
• You can only transfer a maximum of $35,000 from a 529 plan to a Roth IRA.

Addresses one of the biggest concerns

The biggest concern for parents and grandparents setting aside funds for college has always been the "what if" scenario.  What if the young person doesn't go to college?  This addresses that concern, but it doesn't erase it.  A Roth IRA is intended to be for retirement savings.  Using the funds before retirement can still result in taxes and penalties. If you still want flexibility for the end use of what you are saving, the 529 plan may still not be the best option.

The biggest benefit of 529 plans...compounded growth

The biggest benefit of a 529 plan is the value of the tax benefits on compounded growth.  When used for qualified educational expenses, the growth in those accounts is not taxed.  One consideration when thinking about how you save for the young people in your lives is how much you are going to contribute.  Compounding is a bigger factor if you are saving larger amounts.  It also matters how young the child is.  The longer you have to compound the more effective it is.  

Like many topics in the world of personal finance, there are no "one size fits all" answers.  And if you would talk to one of our financial planners, please reach out to us.

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