Rolling over 529 funds to Roth accounts an option
Among the many changes wrought by the SECURE 2.0 Act, passed by Congress at the end of 2022, is the option to roll over a limited amount of unused funds in 529 college savings accounts to individual Roth accounts.
This provision came into effect this year, and the option is available twice in 2024. However, in order to do two rollovers, the first one — corresponding to the 2023 tax year — has to be completed by April 15.
Rollovers of this type are allowed when the student identified as the beneficiary of the 529 account receives a scholarship. There is a yearly limit. For 2023, the limit is $6,500 ($7,500 if the donor is 50 or older). For 2024, the annual limit is $7,000 ($8,000 for donors 50 or older).
If the beneficiary meets the qualifying conditions, the 529-to-Roth rollover can be done for 2023 and 2024 as long as the first rollover is completed by April 15, 2024. A distribution made after December 31, 2023, and by April 15, 2024, designated for 2023, would be reported as a Roth contribution for 2023. The custodian should be notified that the rollover applies to 2023. Rollovers can be completed for more than one student beneficiary associated with a 529 plan.
There is a $35,000 lifetime limit associated with the rollover; this applies to an individual beneficiary. So, if more than one beneficiary is identified in the 529 plan, the $35,000 limit is not applicable. The lifetime limit would be $35,000 multiplied by the number of students specified in the 529 plan. The 529-to-Roth rollover is a nontaxable transaction, but it must be done as a direct trustee-to-trustee transfer, and the rollover must go to the 529 plan beneficiary’s Roth IRA.
To be eligible for the Roth rollover, the following conditions must be met.
The 529 must be open for at least 15 years. There is no indication yet from the IRS if the 15-year requirement restarts if a new beneficiary is named.
The rollover cannot include any contributions or earnings made in the past five years.
The rollover cannot be made unless the beneficiary had sufficient W-2 earnings or self-employed earnings. For example, although in 2023 the maximum rollover was $6,500, if the beneficiary only earned $5,000 in 2023, then the maximum rollover would only be $5,000. Although, in general, there are limits to Roth contributions based on high income, those rules do not apply to 529-to-Roth rollovers. This option is equivalent to the “back door” Roth.
Bottom line: If you have established a 529 account and the beneficiary has sufficient earned income, you can take advantage of the new 529-to-Roth rollover feature twice in 2024. The first rollover, for 2023, has to be done by April 15. Then you are allowed to make another rollover before the end of 2024. There will be no extensions associated with the April deadline, so you should take advantage of this option if there are unused funds in the 529 account that you would like to access without penalty.
It certainly is advantageous for the beneficiaries to have unused funds in the 529 accounts rolled over to Roth accounts. Even if new Roth accounts have to be established, these accounts will be beneficial to them for their long-term financial planning.