Say you made saving for your kids’ college education a priority, but then grandma swoops in and pays for everything. What happens to the money in their 529 plans?
Don't miss
-
Famed economist Larry Summers issues dire inflation warning to Americans after Trump's White House win — 3 ways to help protect yourself in 2025
-
‘Savers are losers’: Robert Kiyosaki warned that millions of 401(k)s and IRAs will be ‘toast’ — here's his advice for older Americans who want to protect their wealth — with no medical exam or blood test
-
5 ways to boost your net worth now — easily up your money game without altering your day-to-day life
A 529 plan is a tax-advantaged savings plan designed to help parents or grandparents cover the costs of their child’s or grandchild’s education. Named after Section 529 of the Internal Revenue Code, a 529 can even be used for student loan repayment (up to $10,000) under the SECURE Act of 2019.
How a 529 works
These college savings plans offer tax-deferred growth and tax-free withdrawals when used for qualifying expenses, which for post-secondary education include tuition, fees and books, as well as room and board. Plans are administered at the state level, which means the rules and investment options differ from state to state.
While there aren’t limits on how much you can contribute each year, most states cap the total amount you can contribute over time. And while your contributions aren’t tax-deductible, many states offer other incentives, such as tax credits or deductions, for in-state plans.
So long as you’re withdrawing the money for qualified expenses, those withdrawals are exempt from federal and state income taxes. If your child ends up getting a scholarship, you can withdraw that same amount from your plan without penalty.
The downside? If you withdraw the money for non-qualified expenses, then those withdrawals are subject to taxes — plus, there’s a 10% IRS penalty on top of that (though there are a few exceptions to the rule, such as death or disability).
So what can this couple do with that money instead? And can they withdraw or transfer the funds without incurring a big penalty?
Read more: I'm 49 years old and have nothing saved for retirement — what should I do? Don't panic. Here are 3 of the easiest ways you can catch up (and fast)
The Roth IRA option
As of 2024, you may be allowed to roll over up to $35,000 in unused funds from your 529 plan into a Roth IRA account for the beneficiary — the idea being that these unused funds can help kickstart your child’s retirement savings. To qualify, the account must be at least 15 years old and contributions made in the previous five years aren’t eligible. Keep in mind, the Roth IRA annual contribution limit for 2025 is $7,000, so you have to make the transfer over many years. The beneficiary also needs to be able to contribute to a Roth IRA, which means they need an income and their income that year needs to be at least equal to the amount of the rollover that year.
