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Internal Revenue Code Section 529 establishes an investment account called a 529 account. A 529 account is an account that parents and grandparents establish for children and grandchildren and then transfer funds. The funds inside the account are invested and grow income tax free. The funds will never be taxed if they are used for the education expenses of the child or grandchild. However, if you do pull out the funds for non-educational purposes, certain penalties exist.
Sometimes individuals shy away from using 529 accounts to fund their children’s and grandchildren’s education because they are not sure if the children or grandchildren will actually have a need for it for their education.
For example, those children and grandchildren could receive scholarships or may, in fact, never go to college. Thus, they would not need the funds in a 529 account, or those individuals may use the 529 account, but have excess funds in the 529 account even after paying for their college education. So, what can they do with the excess? If they simply withdraw the funds, there will be income taxes and potentially penalties. However, as a result of a provision in the new SECURE Act 2.0 recently passed by Congress and signed by the president, another option is available beginning in 2024.
Under the SECURE Act 2.0, the remaining funds in the 529 account can be used to establish a Roth IRA for the beneficiary of the 529 account. The maximum that can be contributed to a Roth IRA from a 529 account is $35,000. There is also an annual limitation of the lesser of the beneficiary’s earned income or $6,500. In addition, the 529 account must have been in place for at least 15 years.
Therefore, if you find yourself in this situation and have excess funds in a 529 account, beginning in 2024, consider funding a Roth IRA for the beneficiary of the 529 account. The Roth IRA will then be able to grow income tax free.
NOTE: This general summary of the law should not be used to solve individual problems since slight changes in the fact situation may require a material variance in the applicable legal advice.
James F. Contini II, Esq.
Certified Specialist in Estate Planning,
Trust & Probate Law by the OSBA
Krugliak, Wilkins, Griffiths & Dougherty Co., LPA
405 Chauncey Avenue NW
New Philadelphia, Ohio 44663
Phone: (330) 364-3472
Fax: (330) 602-3187
Email: jcontini@kwgd.com