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529 Plans are Becoming a No-Brainer!

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October 3, 2023 •  Emily Hicks Law, PLLC
Update to 529 Savings Plans: Investors are now able to convert any leftover funds into a Roth IRA tax-free after 15 years, up to a limit of $35,000.

529 college savings plans have long been a favored tool for families looking to prepare for their children's higher education expenses. However, with the introduction of "Secure 2.0," a set of measures aimed at retirement savers, these plans are set to become even more appealing.

Beginning in 2024, savers will have the option to roll unused funds from their 529 plans into Roth individual retirement accounts (IRAs) without incurring income tax or penalties. There are some conditions to this rollover: the 529 account must have been active for at least 15 years, and contributions made within the last five years cannot be rolled over. Additionally, rollovers are subject to the annual Roth IRA contribution limit, with a lifetime cap of $35,000 for 529-to-Roth transfers.

According to Marshall Nelson, a wealth advisor at Crewe Advisors in Salt Lake City, this change makes utilizing 529 plans a "no-brainer." It offers a new dimension of flexibility and financial advantage for savers.

The Existing Benefits of 529 Plans Before "Secure 2.0" enhancements, 529 plans already had several attractive features:

  1. Tax Benefits: Some states offer tax deductions or credits for contributions to 529 plans, making them a financially savvy choice.
  2. Tax-Advantaged Growth: Earnings within 529 plans grow on a tax-advantaged basis, allowing your investments to potentially accumulate more over time.
  3. Tax-Free Withdrawals: When you withdraw funds from a 529 plan for qualified education expenses, such as tuition, fees, books, room and board, or apprenticeship programs, the withdrawals are tax-free.
  4. State-Specific Benefits: A few states provide additional incentives, such as scholarships or matching grants, for residents who invest in their state's 529 plan.
  5. Student Loan Assistance: Recent changes allow up to $10,000 of 529 plan funds to be used for each plan beneficiary's student loan debt, along with an additional $10,000 for their siblings.

Despite these benefits, total investments in 529 plans decreased to $411 billion in 2022, a nearly 15% drop from the previous year's $480 billion, as reported by the College Savings Plans Network, a consortium of state-administered college savings programs. The decline was attributed to individuals redirecting funds toward more immediate expenses and bills instead of making regular contributions to their 529 plans.

Changing Plans and Flexibility Another factor affecting 529 plan usage was a shift in the plans of prospective college students. Some decided to forgo college altogether, while others considered more affordable in-state public schools or community colleges.

"Secure 2.0" addresses this uncertainty by offering increased flexibility. Even if a beneficiary decides not to attend college, the funds in a 529 plan can still be utilized. Chris Lynch, President of Tuition Financing at TIAA, noted that the fear of what happens to the funds if a child gets a scholarship or opts not to attend college has been a point of resistance for potential participants. However, now individuals can transfer funds to another beneficiary or withdraw them, subject to taxes and penalties on the earnings. Scholarships can also be matched penalty-free.

Furthermore, the ability to convert any remaining 529 plan funds into a Roth IRA without tax consequences after 15 years (up to a $35,000 limit) eliminates this point of resistance. This new feature is expected to significantly boost the usage of 529 plans, providing an enticing option for savers.

Marshall Nelson emphasized the potential long-term advantages, where even a $35,000 investment in a Roth IRA for someone in their mid-20s could potentially grow to close to $1 million over 40 years. This new flexibility not only eases concerns about education expenses but also offers a means to supplement retirement savings, making 529 plans a compelling choice for many.

Reference: "CNBC Life Changes" (September 15, 2023) The biggest downside to 529 plans is about to go away. Now they’re a ‘no-brainer'

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