Kids change their minds a lot, so it’s understandable parents might be nervous to lock away money in a college savings plan. After all, what if your child decides to skip college or drop out? That money could’ve been spent elsewhere.
You can worry less now. That unused money earmarked for education can soon be rescued.
“People with unused college savings will potentially be able to roll over those funds into retirement savings rather than having to withdraw them and incur tax penalties,” said Keith Namiot, chief operating officer with financial services provider Equitable Group Retirement.
The $1.7 trillion federal omnibus spending package passed late last year has a provision that allows tax-free rollovers of up to $35,000 in 529 tuition savings plans to Roth individual retirement accounts starting in 2024.
The rollovers can only begin if the money has been in a 529 for at least 15 years. The amount is also subject to annual Roth IRA limits. The contribution limit for 2024 is set at $6,500, with an extra $1,000 catch-up allowance for people over 50.
Under current rules, leftover money must stay in a 529 plan and be used toward qualified education expenses or else be withdrawn and charged a 10% penalty and federal income tax on the earnings.
Sure, you could change the beneficiary to another family member, like a grandchild, niece or nephew, sibling, or even yourself, but let’s face it, maybe you don’t want to pay for anyone else’s education other than your own children. Now, you may not have to.
“This is a huge deal,” said John Bergquist, managing member of Lift Financial. “It opens the possibility on the backend to do something with the money. This will encourage people to invest in 529s or at least look at them more closely.”
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To demonstrate, Derek Pszenny, financial adviser and co-founder of Carolina Wealth Management, crunched some numbers:
“That’s when I got really excited,” Pszenny said. “Then, you start to wonder how to squeeze out a couple hundred dollars in to save now.”
Additionally, knowing that leftover savings can be used to fund their retirement “can be an incentive (for kids) to be frugal about where they decide to go to college,” he said.
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Yes.
There are two types of 529 plans, or qualified tuition programs: prepaid and savings.
Both are offered by states so they can differ slightly from state to state, and both allow you to change plan beneficiaries to another family member if the money is unused. However, the savings plan is more popular because of its flexibility, including the Roth IRA rollover next year.
Here are the key points of each plan:
Superfunding, used mostly by high-net-worth and older people, allows you to front-load your 529 savings plan by putting in five years’ worth of contributions at once. Contributions count toward your annual gift tax exclusion, which was $16,000 in 2022.
“For folks worried about estate planning, it can be a good vehicle for people,” said Joel Dickson, Vanguard’s head of enterprise advice methodology. “It doesn’t really change the amount you can give on an annual basis, but it can get it out of the estate so it’s not subject to estate taxes.”
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Former President Barack Obama and his wife made superfunding famous after they contributed a total of $240,000 in 529 savings plans for their two daughters in 2007. That year, the annual gift tax exclusion was $12,000 so each of the parents funded $60,000 (5 years x $12,000) to each daughter and avoided tax on the amounts without dipping into their lifetime gift tax exemptions.
The IRS allows individuals to give away a certain dollar amount over their lifetimes without paying federal gift tax. It’s separate from the amount you can give away annually tax-free.
Do your research.
Online tools can help you compare the various plans states offer and consider each plan’s fees, investment choices and tax savings. Places to start may be at College Savings Plans Network, an affiliate of the professional, nonpartisan National Association of State Treasurers organization, or the not-for-profit College Savings Foundation.
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But Dickson offers some rules of thumb to help families get on the path to saving for college:
And remember, “now that there is more flexibility to use 529 proceeds means a little less angst that contributions will be locked up,” he said. “This should alleviate some of the concerns, especially for parents with younger children.”
Medora Lee is a money, markets and personal finance reporter at USA TODAY. You can reach her at mjlee@usatoday.com and subscribe to our free Daily Money newsletter for personal finance tips and business news every Monday through Friday morning.