What to do if you have an overfunded 529 plan

With outstanding student loans now exceeding one trillion dollars, much attention is given to alleviating the burden of student loan debt for families. However, some families encounter an entirely different issue—they've saved too much in their 529 college savings plan.

It may seem surprising, but it's actually possible to accumulate more savings than needed for educational expenses. This situation is more common than you might think. For instance, if you saved for four years of private college in a 529 plan and your child opts to attend a community college for two years before transferring to a state university, you could end up with extra funds in the account.

Why is this surplus an issue? Because there are tax implications if 529 funds are used for non-qualified educational expenses.

Having extra money in a 529 plan is better than having a lot of student loan debt. But what options do you have if your child has completed their education (or chosen not to pursue higher education) and there are leftover funds in your 529 plan?

Keep the Money for Future Education

One option for the remaining funds in your 529 plan is to leave them for potential graduate school expenses. Many students continue their education after college by pursuing advanced degrees. A 529 plan can make paying for graduate school easier.

By keeping the funds in the account, they can grow without being taxed, increasing their value for future use. Having money set aside for education can give you peace of mind. You'll know that you have the funds available for future learning. This can help you avoid the stress of having to meet a deadline.

It is important to prioritize saving for graduate school to avoid accumulating excessive debt. By having savings set aside, you can focus on your studies and career goals without the burden of financial strain. Overall, leaving the remaining funds in your 529 plan for potential graduate school expenses can be a smart financial decision that sets you up for success in your future educational endeavors.

Change the Beneficiary

If you have more than one child, you can move money from one child's 529 account to another child's account. This means that if one child does not end up using all of their college fund, you can transfer the money to another child who may need it more. This can help to ensure that all of your children have the financial support they need for their education.

By reallocating funds in this way, you can also adjust your future contributions to each child's college fund. If one child has extra money, you can give less to their account and give more to another child's account. This can help you to better balance your financial resources and allocate them where they are needed most.

Furthermore, if you have leftover funds in a 529 account and none of your children need them, you have the option to change the beneficiary to a relative. This means that you can transfer the funds to a niece, nephew, grandchild, or even yourself or your spouse for educational expenses. This flexibility lets you use your savings in the account for their intended purpose, maximizing their benefits.

Rollover to a Roth IRA

Thanks to the Secure 2.0 Act, starting in 2024, you can roll over funds from a 529 plan to a Roth IRA in the beneficiary's name. This means that if you have a 529 plan that has been open for at least 15 years, you have the option to roll over funds from that plan to a Roth IRA in the beneficiary's name. However, there is a lifetime maximum of $35,000 that can be rolled over in this way. Also, contributions made in the prior 5 years are not eligible for rollover.

It is important to note that the annual Roth IRA contribution limit is $7,000 in 2024. If you transfer money from a 529 plan to a Roth IRA, make sure you don't go over the limit. 

Overall, this option can be a beneficial way to transfer funds from a 529 plan to a Roth IRA, potentially providing more flexibility and investment options for the beneficiary in the long run.

Save for Future Generations

When you name your grandchild as the beneficiary of your funds, you are helping with their future education. Additionally, you are creating a financial safety net for your own children.

Saving for college early can really help your grandchildren get a head start on their education. Investing in education early helps reduce financial stress of paying for college.

By supporting your grandchildren's education, you are showing that you care about their future success. By investing in their education, you can motivate them to work hard and succeed in school.

Selecting your grandchild as the beneficiary for your education funds is a meaningful gesture. It can benefit both your grandchild and your own children.

Explore Penalty-Free Non-Qualified Withdrawals

In certain situations, people can withdraw money from a 529 plan penalty-free. However, they will still need to pay taxes on any earnings. One such situation is if the beneficiary of the plan passes away or becomes disabled. In these cases, the account holder can withdraw funds without facing any penalties.

Another scenario in which penalty-free withdrawals are allowed is if the beneficiary enrolls in a U.S. military academy. In this case, the account holder can withdraw funds without incurring any penalties.

If the beneficiary gets scholarships, the account holder can take out money equal to the scholarship amount without penalties. This means you can use the money saved in the 529 plan for different educational expenses or savings goals.

Overall, while penalty-free withdrawals are available in certain situations, it is important to be aware of the tax implications that may still apply when making withdrawals from a 529 plan.

Use for Private K-12 Education

Parents can now use money from 529 savings accounts to pay for their children's private K-12 education. This change was made under the Tax Cuts and Jobs Act. Now families can use these funds to pay for private school expenses for their children in grades K-12.

Also, parents can use leftover 529 funds from one child's education for private school costs for their other children.

This change in the law provides families with more flexibility and options when it comes to using their 529 savings accounts. Parents have options to save for their children's education, whether they attend public or private schools. This law change gives parents more chances to invest in their children's education and future success.

Bottom Line

If you have too much money in your 529 account, talk to a financial advisor. They can help you figure out the best plan for your family's situation.

Sources: 
https://www.empower.com/the-currency/money/overfunded-529-plan

Disclosures:

This information is an overview and should not be considered as specific guidance or recommendations for any individual or business.

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