What Happens When There’s Money Left in a 529 Plan?

by Lorenzo P. Gaudioso  CFP®, C(K)P®, CRPS®, CPFA®, Wealth Advisor, Retirement Plan Advisor

The objective with a 529 plan can be straightforward: set money aside for education and allow those savings to grow. The questions often become more interesting when the education bills have been paid and there is still money in the account. That is generally a good problem to have, but it does create a decision.

Unused 529 assets do not necessarily need to be withdrawn, and there may be several ways to use them depending on the beneficiary, the family’s circumstances, and what you would like the money to accomplish. The challenge is determining which option makes the most sense before making a move that could have tax consequences or limit another opportunity.

Education May Still Be Part of the Answer

The first question to ask is whether you are truly finished paying for education.

A beneficiary who has completed college may eventually pursue graduate school, professional school, certifications, or other eligible training. In that case, leaving the assets in the 529 plan may make sense. The account may also be useful for another qualifying family member if the original beneficiary no longer needs the money.

There are additional possibilities under current rules, including using 529 assets for certain student loan payments. Each option has its own requirements and careful consideration should be taken before deciding simply because there is a balance remaining after graduation.

Time can be useful here. There may be no immediate need to do anything with the account.

The Roth IRA Option Has Created New Interest

One option that has received considerable attention is the ability, in certain circumstances, to move unused 529 assets into a Roth IRA for the beneficiary.

It is easy to understand the appeal. Money originally accumulated for education may have an opportunity to begin serving a different long-term purpose. The rules, however, matter.

Among other requirements, the 529 generally must have been open for at least 15 years, the Roth IRA must belong to the beneficiary, and the beneficiary needs earned income. Annual IRA contribution limits also apply, as does a $35,000 lifetime limit per beneficiary. Contributions made to the 529 during the preceding five years generally cannot be rolled over immediately.

There is another detail that is easy to overlook. A 529-to-Roth rollover counts toward the beneficiary’s annual IRA contribution limit. If the beneficiary is already making IRA contributions, that needs to be considered before initiating the rollover.

This is a good example of why knowing that a strategy exists and knowing whether it is appropriate for your circumstances are two different things.

Withdrawing Money Deserves Careful Consideration

A family can also decide that it simply wants the money for something unrelated to education.

That may be possible, but the tax treatment changes. Contributions generally are not taxed again, while the earnings portion of a nonqualified withdrawal is typically subject to ordinary income tax and a 10% federal penalty. State tax consequences may also apply.

There are circumstances where the federal penalty may be waived, including certain situations involving scholarships, disability, death, or attendance at a U.S. military academy. The earnings may still be taxable.

Those details are worth understanding before requesting a distribution.

Start With What You Want the Money to Accomplish

When someone asks me what to do with money remaining in a 529 plan, we don’t think the conversation should begin by choosing from a list of strategies.

We would first want to know whether the beneficiary may pursue additional education, whether another family member could eventually use the funds, whether the beneficiary is working and saving for retirement, and whether the family has another objective for the money.

The answers begin to narrow the possibilities.

This is also an area where coordination can be important. The 529 provider can confirm account information and available procedures, while a tax professional can help evaluate the federal and state tax consequences of a particular strategy.

Having money left in a 529 is a fortunate position. It also creates choices that may affect education, retirement, taxes, and potentially other members of the family.

Before deciding what to do with the balance, it is worth understanding which of those choices fits what you are trying to accomplish.

Questions We Often Hear

Do I have to close a 529 when my child finishes college?

No. Depending on your circumstances, keeping the account for future qualified education expenses may be one of the options worth considering.

Can unused 529 money really be moved into a Roth IRA?

Under current rules, certain 529 assets may be eligible for a rollover to a Roth IRA owned by the beneficiary. There are several requirements and limits, including rules involving the age of the 529 account, earned income, annual IRA contribution limits, recent 529 contributions, and a lifetime rollover limit.

What should I do before deciding?

Start with the purpose of the money. Consider whether there may be future education needs, whether another eligible family member could use the account, and whether a Roth rollover or another strategy may be available. Before executing a transaction, it can also make sense to coordinate with the 529 provider and your tax and financial professionals.

---

Advisory services are offered through Granite Islands Private Wealth, LLC, an SEC-registered investment adviser. This material is provided for informational purposes only and should not be construed as investment, legal, tax, or accounting advice. The information is general in nature and may not be applicable to your individual circumstances. Please consult your financial, tax, and legal professionals before making financial decisions.