Kick-Start Your Child’s Retirement Savings by Rolling Over Unused NYS 529 Plan Assets

With college costs increasing at a rate greater than inflation, investing within a 529 plan offers participants the opportunity to keep up with rising education expenses with some immediate tax savings upon funding. Since there are many unknown factors as to how much your child’s future education expenses will cost, it can be difficult to pinpoint exactly how much to save. As a result, some of these plans are overfunded and subject to tax penalties if withdrawn for non-qualified education expenses.

New York State has recently adopted the Federal Secure 2.0 Act ruling that allows unused 529 plan balances up to $35,000/beneficiary to be rolled into a Roth IRA for the original beneficiary. This transfer will be income tax and penalty free if participants meet the following requirements:

• The 529 account must have been open for 15 years prior to the conversion.
• The amount being rolled over must have been in the 529 account for at least 5 years prior to being rolled over.
• The amount being rolled over cannot exceed the annual Roth IRA contribution limit each year ($7,000 for 2025).
• The 529 plan beneficiary must also be the owner of the Roth IRA and have earned income at least equal to the amount being rolled over each year.

The chart below shows the result of rolling over $35,000 of unused funds assuming a 6% annual rate of return over the course of 40 years. This projection assumes the $35,000 will be rolled over in $7,000/year increments for the first five years with no additional subsequent contributions.

As you can see, rolling over your child’s unused NYS 529 plan funds can provide them with a substantial head start on their retirement savings. It is worth noting that any unused funds above the $35,000 limit will be subject to the following penalties upon distribution:

1. The portion of nonqualified distributions attributable to earnings will be subject to federal income tax and a 10% penalty.
2. The individual who originally contributed to the NYS 529 plan will have to recapture any previously deducted contributions attributable to the non-qualified distributions on their NYS tax return.
3. The beneficiary will have to pay tax on the earnings portion of the distribution at their NYS ordinary income tax rate.

Overall, this strategy provides a unique opportunity for individuals to rollover a portion, or all, of their overfunded 529 plan balances invested to a tax-advantaged Roth IRA without facing penalties. New York State has authorized participants to implement this strategy, however the tax treatment will vary depending on which state you live in. We suggest contacting your Rockbridge financial advisor if you are interested in learning more about how these rules may apply to your situation.