On 529-to-Roth Rollovers, Advisors Await IRS Answers, With a Shrug
If the IRS guidance “is favorable to it, we’ll probably see more clients intentionally overfunding 529 accounts or targeting closer to 100% of future education costs in the 529s,” Wilson said.
Juan Hernandez, principal with WealthCreate in Houston, said in another email that the lack of clarity around the new Secure 2.0 rule “and the number of restrictions make it just an additional tool in case there are unused funds at the end of college rather than an appealing tax or financial planning opportunity.”
Hernandez said that his firm will use the new provision “in some specific cases, but not as much as some people would think.”
As it stands now, there are “already ways to repurpose unused 529 funds, such as switching the beneficiary (being mindful of potential gift tax implications, of course), using it to pay up to $10,000 of student loans, or withdrawing the equivalent basis penalty-free if the beneficiary was awarded a tax-free scholarship,” Hernandez said.
The new Secure 2.0 provision is “one of those instances in which there’s so much room for interpretation that this rule will evolve more and more over time to make it more defined,” Hernandez opined. “Historically, these rule evolutions make these tools more restrictive. Because of this, it is always good to err on the side of caution when planning.”
Is a 529 Plan the Best Way to Save for College?
Hernandez noted that his firm does recommend 529s “in some instances (depending on prior liquidity, age of the student, and financial goals) — but only about 50-60% of the time.”
Sometimes it’s better to use a “Roth IRA or [nonqualified] brokerage account or a combination” or “utilizing some student loans may be beneficial depending on the major (for Public Service Loan Forgiveness purposes) and interest rate (especially when considering Federal Student loans’ interest doesn’t capitalize while the student is in college and some State-based loans are simple interest altogether).”
Further, 529s “lack the liquidity in case the student obtains a grant or pursues a different pathway (although Secure 2.0′s Roth tool is very interesting as a last resource),” Hernandez maintained.
Moreover, investments in 529 plans “can be less competitive than what you can allocate into a Roth IRA or even a properly and responsibly managed low-turnover brokerage account,” Hernandez said. “Even if you meet all the rules …, is going through all that hassle worth more than the alternatives? Based on our calculations, I don’t believe so.”
