By Jackson Keenan, CFP®, Director of Financial Planning
Top 5 Takeaways: What to Do with an Overfunded 529 Plan
- Change the Beneficiary
You can switch the 529 to another eligible family member which could be siblings, cousins, even yourself. - Use for Grad School or Future Education
Funds can be used for additional degrees, certifications, or continuing education. - Rollover to a Roth IRA (New Option)
Starting in 2024, unused 529 funds (up to $35,000 lifetime) can be rolled into the beneficiary’s Roth IRA, if certain rules are met. - Withdraw with Penalty (Last Resort)
If needed, you can withdraw unused funds, but earnings will be taxed and face a 10% penalty unless an exception applies. - Let It Sit
529 accounts have no expiration so you could let the funds grow tax-deferred for a future child or grandchild.
Last month I reviewed ways high-income earners can plan for education expenses. One of the preferred methods is a 529 Education Savings Plan. To recap, a 529 plan:
- Allows you to save and invest for a beneficiary’s future qualified education expenses.
- Many states offer tax benefits such as deductions or credits for contributions.
- Deposits can be invested and grow tax-free.
I have seen that several of our clients enthusiastically saved, but the student’s needs changed. The student may get a scholarship, attend a lower-cost school, or may not attend higher education at all. Not using your 529 for qualified expenses results in federal taxes for the earnings portion and a 10% penalty. What started as a great way to save for college has now become a burden.
Today I will provide options for overfunded 529 plans that will lessen the sting of taxes and penalties.
For starters, you can simply change the beneficiary to someone with more need. The new beneficiary must be a family member as defined by the IRS.
This includes:
| Spouse | Siblings or step-siblings |
| Son, daughter, stepchild, foster child, adopted child | Son-in-law, daughter-in-law |
| Father-in-law, mother-in-law | Brother-in-law, sister-in-law |
| Father or mother or ancestor of either, stepmother, stepfather | Aunt, uncle or their spouse |
| Niece, nephew or their spouse | First cousin or their spouse |
Depending on the plan, you could even change it to yourself!
529s can also be transferred to a ROTH IRA without income limitations. Other rules include:
- Naming Limitations:
- The Roth IRA receiving the funds must be in the name of the beneficiary of the 529 plan.
- Timing Limitations:
- The 529 account must have been open for at least 15 years. Only contributions (and their earnings) made more than five years before the rollover are eligible.
- Funding Limitations:
- The annual limit for funding from a 529 plan to a Roth IRA is the IRA contribution limit for the year ($7,000 for 2025; $8,000 if age 50 or over), less any ‘regular’ traditional IRA or Roth IRA contributions that are made for the year.
- The maximum lifetime limit for an individual’s lifetime is $35,000.
- The beneficiary must have earned income for the rollover and the rollover amount cannot exceed the beneficiary’s earned income for the year.
The first two options I discussed help to avoid taxes and penalties. These options will help to have the 10% penalty waved but you still pay taxes on the gains:
- The beneficiary receives a tax-free scholarship.
- The beneficiary gets educational assistance through a qualifying employer program.
- The beneficiary attends a U.S. Service Academy (Army, Navy, Air Force, Coast Guard, Merchant Marine).
If you decide to save into a 529 plan, I recommend you consider how much will really be needed in the future. Slightly underfunding can save you a lot of headaches.
Citations:
- IRS Publication 970 Tax Benefits for Education, Chapter 8.
- IRS News “529 Plans: Questions and answers”.
A Message From MONTAG Wealth Management
The information provided is for illustration purposes only. It is not, and should not be regarded as “investment advice” or as a “recommendation” regarding a course of action to be taken. These analyses have been produced using data provided by third parties and/or public sources. While the information is believed to be reliable, its accuracy cannot be guaranteed. MONTAG employees do not provide legal or tax advice. For specific legal or tax matters, you should consult with your own legal and/or tax advisors.
Certified Financial Planner Board of Standards, Inc. (CFP Board) owns the CFP® certification mark, the CERTIFIED FINANCIAL PLANNER™ certification mark, and the CFP® certification mark (with plaque design) logo in the United States, which it authorizes use of by individuals who successfully complete CFP Board’s initial and ongoing certification requirements.
