Qualified tuition plans (QTPs), or 529 plans, have long suffered from significant limitations. For years, families were forced to make tough decisions about early withdrawals and unused funds, sometimes under threat of heavy penalties. However, recent changes to the federal tax code have made it easier than ever for account holders to reclaim and reinvest residual savings. Changes to 529 plan

The Law Firm of Kavesh, Minor & Otis, Inc. has spent decades helping Californians make big decisions about education savings, estate planning, and retirement. Our experienced team of attorneys could help you explore your options for establishing a 529 plan or rolling an existing QTP into a Roth IRA.

The Premise and Promise of 529 Plans

A 529 plan is a type of tax-advantaged savings plan that helps American families fund their education needs. Legally termed “qualified tuition plans,” they were created in 1996 through modification to the federal tax code. Today, there are two recognized types of qualified tuition plans: education savings plans, and prepaid tuition plans.

Education Savings Plans

Education savings plans let an individual saver open an investment account. The principal, as well as any investment proceeds, can be used to cover certain higher education-related expenses, such as tuition, course fees, and accommodation. Funds can also be applied toward tuition at select secondary schools as well as registered apprenticeship programs.

Prepaid Tuition Plans

Prepaid tuition plans, in contrast, let either the saver or the account holder effectively “purchase” academic credits at participating colleges and universities. These plans are not as flexible as education savings plans since funds can only be used for anticipated tuition expenses and other mandatory fees.

However, 529 plans—both education savings plans and prepaid tuition plans—have changed substantially since their inception.

The Latest Change to 529 Plans Could Be a Game-Changer for Many Families

Congress recently passed “Secure 2.0,” a series of expansive, retirement-related provisions intended to improve and reinforce America’s retirement system. Key changes introduced by Secure 2.0 include the following:

  • Automatic retirement plan enrollments
  • Revised required minimum distribution (RMD) rules
  • Expanded access to retirement funds with fewer early withdrawal penalties

Starting in 2024, many QTP savers will be able to begin rolling unused money into Roth individual retirement accounts. Transfers can be made without penalty and will not be subject to any federal or state tax obligations.

However, Secure 2.0 does set requirements for Roth IRA conversions. Under most circumstances, an account is only eligible for conversion or transfer if it has been open for at least 15 years. Furthermore, account holders cannot roll over any contributions made in the five years preceding the intended conversion. There is also a $35,000 lifetime cap on all 529 plan transfers.

The Advantages of a 529 Plan

Although federal law authorizes the creation and use of 529 plans, the actual operation of QTPs is left to individual states. Many state-operated 529 plans offer open enrollment to residents of different states.

In California, ScholarShare 529 provides benefits, including the following:

  • Tax-deferred earnings
  • Tax-free withdrawals
  • Financial aid incentives 

With the expected enactment of Secure 2.0’s QTP-specific provisions in 2024, parents and other account owners will have an opportunity to put unused 529 plan funds to good use. If they or their beneficiary secure a scholarship or other significant financial aid, they can simply roll their savings into a Roth IRA instead of being forced to make difficult decisions about early withdrawals or unnecessary spending.

However, 529 plans only serve their intended purpose when they are established in alignment with a comprehensive estate plan. The Law Firm of Kavesh, Minor & Otis, Inc. has years of experience helping California families ensure their financial well-being while warding off uncertainty.  

Philip J. Kavesh
Nationally recognized attorney helping clients with customized estate planning guidance for over 40 years.