SECURE ACT 2.0: Using 529 Accounts to Fund Roth IRAs

Let’s face it. Most of the funding of 529 accounts comes from higher-net-income parents, and/or wealthy grandparents.

One of the problems with 529 accounts is that – if the money is not utilized for college (for example, the beneficiary does not attend college, or receives a good scholarship) – then alternative uses for the 529 funds must be explored. One possibility is to change the beneficiary on the account. Another possibility is to withdraw the funds from the account – but, generally, money taken out of 529 accounts for other than educational costs can be taxed and penalized.

Now, there is a new exception to this – the account owner can move money from 529 account to Roth IRA – starting in 2024 – provided certain requirements are met. This provision may be hugely attractive to parents / grandparents who desire to “supercharge” the beneficiary’s future retirement. The requirements include:

  • Maximum $35,000 lifetime limit (no indexing for inflation) may be transferred from 529 accounts to the Roth IRA account
  • Must be a trustee-to-trustee transfer
  • Subject to Roth IRA annual contribution limits – $6,500 in 2023 ($7,500 catch-up)
  • Cannot duplicate other contributions to traditional or Roth IRAs. Subtract any other contributions made during the year to traditional or Roth IRAs from the $6,500 annual limit (as inflation-adjusted) (or the catch-up limit)
  • Note: the transfer from 529 to Roth account is not subject to the MAGI limits
  • 529 account must be open for 15 yearsAny contributions to the 529 plan within the last 5 years (and the earnings on those contributions) are ineligible to be moved to a Roth IRA
  • The transfer from 529 to Roth account must be in the name of same beneficiary.
    • Use a “Custodial Roth IRA” account. The beneficiary (minor) will assume control at ages 18 or 21, depending upon the state law governing the account.
  • Question: Can you change 529 account beneficiary name (to another person, or yourself, for example), for an account already open for 15 years, and then transfer to the new beneficiary’s Roth IRA account?
    • Answer: Unknown. Expect this to be addressed in IRS proposed rules. The answer is probably “no” – but the legislation is unclear. The result might be … that the beneficiary of the 529 account may have been required to be the beneficiary for 15 years prior to the transfer to the Roth account. (But other answers are possible, and this issue may require further legislation to provide the answer.)
  • Question: Does the beneficiary need to have earned income that year to do the conversion from the 529 account to the Roth IRA account?
    • It appears that the amount of the 529 transfer to a Roth IRA cannot exceed the beneficiary’s earned income (salary and wages) that year.
    • Whether this result was intended by the SECURE ACT 2.0 is unclear.

Why is this so beneficial? Compound interest! As Albert Einstein (may have) stated: “Compound interest is the eighth wonder of the world. He who understands it, earns it; he who doesn’t, pays it.”

  • How much to save for retirement? $100,000 gross income (2023) likely needed for an “o.k.” retirement (but not a great retirement)Average social security retirement benefits of single person in 2023: $1,827/month (maximum benefit of $3,636 at full retirement age in 2023; if wait to claim at age 70 the maximum benefit is $4,559). Average benefits for married couple in 2023 where both receive benefits: $2,972; equals approximately $36,000/year.
    • 65% of currently retired workers claimed social security retirement benefits prior to their Full Retirement Age (SSA Annual Statistical Supplement, 2022).Around 35% of men and close to 40% of women file for social security retirement benefits at age 62, according to a 2020 survey from the BiPartisan Policy Center.
    • While the average age for claiming social security retirement benefits increased from 63.6 in 2008, to 64.7 in 2018, in large part due to increase in the full retirement age.A study by the Federal Reserve and Boston University found that although 90% of retirees should wait until age 70 to claim their social security retirement benefits, only about 10% currently do.
    • We need to better educate the public about the benefits of claiming social security retirement benefits later, for most of those who retire before their full retirement age.
  • Accordingly, $64,000 additional income is required (2023 amount) for our hypothetical client to secure $100,000 total gross income
  • If we assume a 3.3% rate of withdrawal, based on $64,000 of income needed (with increases thereafter at the rate of inflation), then approximately $2,200,000 “nest egg” needed in 2023 for that “o.k.” retirement (plus average social security retirement benefits for a married couple).
  • STRATEGY: Open a 529 account immediately after a child is born.
    • Assuming this situation exists today … a 529 account was opened for a child immediately after the child’s birth 15 years ago, and the 529 account has been open for 15 years. Commence transfers today from 529 to Roth IRA. Transfers undertaken at ages 16, 17, 18, 19, 20, and 21 (assuming $6,500 for first 3 years maximum contribution, and $7,000 for subsequent 2 years of contributions, and $1,500 in sixth year, with no further contributions to the Roth IRA account thereafter
      • See paragraph above, as to the issue of whether the child must possess earned income in order to do the 529-to-Roth transfer.
    • Plan ahead for new parents …. assist a parent setting up a 529 account for a newborn:
      • Fund with small amount to start the 15-year period running. If possible, the donors immediately fund the account (with extra funds, not likely needed for college) in the amount of $7,300. (If immediate funding is not undertaken, seek to meet the requirements of not transferring funds that were contributed – plus the earnings from those funds – during the past five years.)
      • Assume 10% growth annually in the account value. Then, the transfers would occur from 529 to Roth IRA commencing at age 16 (assuming the beneficiary has earned income up to the amount of the transfer), in an estimated amount of $8,500 per year (due to inflation adjustments) until the $35,000 amount (not inflation-adjusted) limit is reached.
      • Then assume aggressive investments in this Roth IRA account (net of fees and costs) until age 65 (assumed retirement age). At 10% annual growth, then $3,088,769 would be in the account when the beneficiary attains age 65. If we assume a 2.5% average rate of inflation, the inflation-adjusted amount is $1,046,844. This strategy funds approximately 48% of the desired amount of the “nest egg” for an “o.k. retirement” – with a substantially reduced income tax burden in retirement, to boot!
      • If 12% annual growth were achieved, instead,, then $7,216,795 would be in the account when the beneficiary attains age 65. If we assume a 2.5% average rate of inflation, the inflation-adjusted amount is $2,492,496. This strategy funds all of the desired amount of the “nest egg” for an “o.k. retirement” – and likely leads (with other funding of retirement while working) to an “exceptional retirement” for this beneficiary.
  • STRATEGY: Open a 529 account for yourself if you desire to boost the amount in your Roth accounts. If you are unable to make further contributions to a Roth IRA account (or Roth SIMPLE IRA, or Roth defined contribution plan accounts), but desire greater funding to a Roth account. Fund the 529 account with $7,300. Assuming 10% growth, this should be sufficient to move $35,000 from 529 account to Roth IRA account, over several years, after 15 years have passed from the date you opened the 529 account.
    • (This is an aggressive strategy, neither clearly permitted nor clearly prohibited by the SECURE Act 2.0, and future law or regulation, or an IRS interpretation, may negate it.)