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SECURE Act 2.0: Expanded College Savings & Roth IRA Opportunities for Military Families

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SECURE Act 2.0: Expanded College Savings & Roth IRA Opportunities for Military Families

Leading into the New Year, Congress passed a $1.7 Billion spending package which included a bill known as the SECURE Act 2.0.  This bill includes more than 90 targeted changes to the tax code intended to encourage Americans to save more for retirement.  One of these small but powerful changes will allow parents to transfer excess funds from their child’s 529 college savings plan to a Roth IRA.

Beginning in 2024, parents who have excess college savings in their child’s 529 plan will be allowed to roll over up to $35,000 of those funds to a Roth IRA.  The intent is to encourage parents to contribute to 529 college savings accounts as their child grows up without the fear that they will be penalized if the funds are not needed for college expenses.  Generally, if a family takes 529 distributions outside the strict IRS definition of education expenses, they face additional taxes and penalties. 

Military families who transfer Post 9/11 GI Bill education benefits to their dependents often find they have leftover 529 savings when their child graduates from college, especially if their child attended a college that participated in the generous Yellow Ribbon Program.   Under the new rules, parents have an opportunity to repurpose these excess savings to fund their child’s Roth IRA or potentially their own Roth IRA.

The Requirements

To meet the new requirements, the 529 account must meet a few specific requirements:

  • The 529 account must have been open for at least 15 years;
  • The Roth IRA receiving the funds must be in the same name as the named beneficiary of the 529 account;
  • There is a lifetime limit of $35,000 than can be moved from each 529 account to a Roth IRA;
  • The annual IRS limit for IRA contributions will still apply (for example, 2023’s IRA limit is $6500);
  • Any contributions (and associated earnings) from the previous 5 years are ineligible to be moved to the Roth IRA.

An Example

Here’s an example of how military parents might use this new 529 to Roth IRA option:

Mary is a Veteran who saved diligently from birth through age 18 for her only daughter Susie’s college education using a 529 College Savings Plan.  Because Susie was able to use her mother’s Post 9/11 GI Bill Education Benefits to fund most of her college expenses, her 529 Plan account balance is $30,000 when she graduates in 2024.   Mary decides to use the leftover 529 Plan funds to jump-start Susie’s Roth IRA. 

In 2024, she transfers $6,500 from Susie’s 529 to her Roth IRA, staying within the IRS limit for IRA contributions that year.  From 2025 through 2029, she continues to transfer up to the IRS contribution limit each year until Susie’s 529 account is empty.  

In this example, Mary has successfully met all the IRS requirements to avoid any taxes or penalties on their transfer:

  • The beneficiary name on the 529 Plan and Roth IRA accounts match, they are both in Susie’s name
  • Susie’s 529 Plan has been open for more than 15 years
  • All their 529 contributions were made at least 5 years before the transfer
  • In total, they transfer less than $35,000
  • They contribute up to but not more than the annual IRS limit on IRA contributions each year.

Secure Act 2.0 – What We Don’t Know

One provision that will require additional guidance from the IRS is whether changing the 529 account’s named beneficiary would trigger a new 15-year waiting period.  We anticipate the IRS will provide additional guidance before January 1, 2024 when this new pathway to a Roth IRA becomes available.

Here’s where this strategy gets interesting.  As it currently stands, an owner of a 529 account can change the beneficiary to any number of family members at their discretion, including themselves or their spouse. If parents are permitted to transfer the named beneficiary to either their own name or their spouse’s, then they would be able to leverage the excess college savings funds to contribute to their own or their spouse’s Roth IRA. 

It will take the IRS months to detail how it intends to implement the changes introduced with Secure Act 2.0, and financial professionals even longer to unwind all the nuanced strategies to take advantage of them; but for now, this change provides a viable alternative for military parents saving for college in a 529 plan.

Financial planning for military families is unique.  The financial planner members of the Military Financial Advisor Association understand your life and can help you navigate your finances and optimize your opportunities.