Game changer or not, SECURE 2.0 529 rollover rule turns advisor heads
Starting next year, beneficiaries of 529 plans that have been in place for 15 years or more will be able to move assets into a Roth IRA.
The recently passed SECURE 2.0 Act is giving college savers more time to learn the benefits of compound interest.
Under the SECURE 2.0 Act, beneficiaries of 529 accounts that have been in place for 15 years or more will be able to move assets from their 529 to a Roth IRA starting next year. This rollover capability is good news for advisors and investors because it lengthens the compounding time of the assets, ultimately boosting account values. It also reduces parental worrying that they are “over-saving” for their child’s education if, for example, their son or daughter scores a scholarship.
Of course, the account holders must meet the new rule’s requirements, of which there are a few.
Among other restrictions, the transfer is subject to the beneficiary’s annual contribution limit as well as a lifetime maximum of $35,000. Contributions or earnings from the past five years can’t be rolled over. And the Roth IRA accepting the funds must be in the same name as the 529 plan beneficiary.
“While the added rollover to Roth IRA option makes the account more attractive, there are caveats, such as a $6,500 per year rollover limit and a total lifetime limit of $35,000,” said Sandra Cho of Pointwealth Capital Management. “So, be aware of the details, or the IRS devil will get you.”
“This provision is definitely helpful,” said Isaac Bradley, director of financial planning at Homrich Berg. “529 funds can only be used for qualified educational expenses without tax or penalties, whereas Roth IRA funds can be used for anything, so the ability to roll over up to $35,000 is significant.”
How significant?
Jeremy Gottlieb, president and CEO of Gottlieb Wealth Management, which is a part of Integrated Partners, estimates that if $35,000 were rolled over into a Roth IRA — presuming the child graduates college, gets a job and is willing to allow the invested funds to grow to age 65 — then, at a 6% growth rate, the retirement account could be worth about $430,000.
“That could be quite impactful for an individual at retirement,” Gottlieb said.
DEFINITELY HELPFUL
Chelsea Ransom-Cooper, managing partner at Zenith Wealth Partners, said the new rule is helpful for her clients with young children who were hesitant to fund a 529 plan for fear that unused funds would have to sit in the account or pass to another beneficiary.
“With this new provision, we are hearing clients express that they are more open to exploring a 529 account since they know the funds can be deposited in a Roth IRA to invest for long-term growth,” Ransom-Cooper said. “They see this as an opportunity to extend their family’s wealth building strategy.”
To Mike Lynch, managing director of applied insights at Hartford Funds, this particular provision of the Secure Act 2.0 provides further proof that the government has realized that Americans today are living longer in retirement, staying more active and remaining healthier than any prior generation. It also tells him that politicians in Washington finally understand that individuals entering retirement today are less financially secure than prior generations.
“The guarantees of a pension and Social Security are no longer there,” Lynch said. “Many are relying only on their personal retirement savings. Any change to enable people to add more to their retirement savings is always a positive in my mind.”
One open question, however, is whether changing the beneficiary of a 529 restarts the required 15-year waiting period.
“Depending on the IRS interpretation, this law could become a wealth transfer and tax strategy for estate planning separate from just education planning,” said Ashley Weeks, vice president at TD Wealth. “With over $400 billion sitting in 529 plans, 2024 will be our first glimpse at how this new provision in Secure 2.0 impacts investor behavior.”
NICE, BUT NOT A GAME CHANGER
Kris Carroll, managing director for the Carolinas at Wealth Enhancement Group, hopes the new rule encourages more families to save for a child or grandchild’s education. Nevertheless, for all the hype, he believes the provision is unlikely to be used by people who really need the benefit.
“In my experience, 529 plan money gets used. In the rare event that it does not, there are often other options,” Carroll said. “For instance, I had one client where their oldest went to The Citadel with no cost, but in that case they had a younger child who went to a private school, so they transferred the funds from one child to another.”
In Carroll’s view, the biggest beneficiaries are most likely to be wealthy families that have overfunded 529s for young children and now have an easy way to have some money grow tax-free for a very long time. However, he said, that benefit is mitigated by the limits both of lifetime conversion and of annual Roth contributions.
“While I think this provision isn’t a big deal, it may be another way to encourage families to use 529s by breaking down one of the arguments against saving early,” Carroll said. “That is a positive — 529s are a great way to start saving for college, so if any small change encourages more families to use them, I think that is a benefit.”
While Hartford Funds’ Lynch also likes the concept, he too has reservations about how many savers will be able to take advantage of it, and whether it will cause them to take their eye off the ball when it comes to saving for retirement.
“The cost of college continues to rise, but there are options available to help individuals afford higher education, including 529s, federal aid, loans, part-time employment, deferral of college for a few years, and community college for general education requirements,” Lynch said. “With retirement, there are not the same options available.”
Still, while the new rule may not be a big deal at the moment, it could change some minds going forward, said Ginger Ewing, private wealth advisor at Ameriprise Financial.
“Out of the hundreds of 529 plans I have opened during my 20-plus-year career, I have only had one client have funds remaining in a 529 plan after a child graduated from college,” Ewing said. “But my conversations have already changed with clients over the last few weeks. With the market being down right now, it’s a good time to sell assets with less of a gain, or at a loss, and transfer funds into 529 plans so that when the market starts to rebound, the recovery can happen tax-free.”
“We can be more confident about the possibility of over-funding [529s] now that their children or grandchildren can use these accounts tax-free for their retirement, too,” she added.
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