There are a number of reasons why someone might want to change 529 plans. Perhaps your plan has been underperforming, or maybe you moved and your new state offers a tax deduction for contributions. In the rare event that a state closes a plan, such as Tennessee’s prepaid tuition program, account owners have the option to rollover their account value into a 529 college savings plan without penalty.
Before you make any changes to your plan or move forward with a 529 plan rollover, ask yourself these five questions:
1. Have You Recently Done a 529 Plan Rollover?
529 plan owners are limited to just one tax-free rollover in a 12-month period. This rule applies per beneficiary, not per plan. For example, let’s say you moved to another state and you want to transfer the funds in your son’s existing 529 plan to a plan in the state you reside in because they offer a tax deduction for contributions. However, your father (the child’s grandfather) also has a 529 plan with your son named as the beneficiary. You’ll need to make sure that he hasn’t done a rollover within the last 12 months, or your transaction will be considered a non-qualified withdrawal. The earnings portion of non-qualified withdrawals will be subject to income tax as well as a 10% penalty.
RELATED: When should you switch 529 plans?
2. Have You Selected Your Next Plan?
There are two ways you can roll over your 529 college savings plan. You can either fill out a rollover distribution form for the new plan and let the plan administrators handle the transfer, or you can take a distribution from your existing account and deposit the money into the new plan as a rollover contribution. Regardless of which method you choose, the funds will need to be moved to the new plan within 60 days of the withdrawal from the old plan. If you miss the 60-day window the withdrawal will be considered non-qualified.
Before you initiate a rollover, be sure to explore all of your options when it comes to opening a 529 plan. There are over 100 different plans available from almost every state, and Savingforcollege.com offers helpful comparison tools that can assist you with your choice.
3. Is it Really a Rollover?
If you’re moving funds from one 529 plan to another, it’s considered a rollover and can only be done tax-free once in a 12-month period. But what If you want to use the money from an existing Coverdell ESA to open a 529 plan? While this transaction will still be tax-free, it’s not considered a true rollover and therefore is not limited to once per 12-month period. The same applies if you redeem certain Series EE or I bonds purchased after 1989 by someone age 24 or older and deposit the proceeds into a 529 plan. There won’t be any tax consequences, and it won’t count toward your rollover limit.
RELATED: Coverdell ESA versus 529 plan
4. There May be a Way to Get Around the 12-Month Limit
529 plan rollover rules place certain limitations on rollovers. Any additional rollovers for the same beneficiary per 12-month period will be considered to be anon-qualified distribution
If the new beneficiary is not a member of the family of the old beneficiary, the rollover will be considered to be a non-qualified distribution. The earnings portion of a nonqualified distribution is considered to be a taxable distribution and is reported as income on theFAFSA
To avoid paying taxes and penalties on a 529 rollover if you’ve already done one in the last 12 months, you’ll just need to designate another qualifying family member as the beneficiary on the new account. According to IRS Publication 970, this can be a sibling, spouse, or even a first cousin. Beneficiary changes can be done as often as you need, so after you roll over your funds you can simply change the beneficiary back to the first child.
Changing the beneficiary can also help if you want to make more than two investment changes during a calendar year. The IRS allows two investment option changes during a calendar year, but if you want to make a third change you can request a beneficiary change along with the investment option change request.
RELATED: The magic of beneficiary changes
5. You May End Up Owing ‘Recapture Tax’ to Your State
35 states, including the District of Columbia, allow residents to claim a tax deduction or credit for 529 plan contributions. The majority of these states require you to use your home state’s plan, but seven states will offer a tax break for contributions to any 529 plan. If you’ve been deducting contributions on your state tax return and decide to roll over your funds to another state’s plan, be sure to check the rules regarding recapture. This could end up being a costly surprise on your state tax return.
If you’re changing plans because the new plan offers a state tax deduction for contributions, check the rules regarding rollovers. Some plans will allow you to claim a deduction for a portion of the rollover contribution. For example, only the principal portion of the rollover may be eligible for a deduction, and the maximum annual deduction will vary by state.
529 Plan Rollovers vs. Transfers
In short, a 529 rollover transfers account funds to another 529 plan, while a transfer changes the beneficiary of the plan. You can easily change the beneficiary of your 529 plan at any time with no penalties, as long as the new beneficiary is an eligible relative, such as a sibling, step-siblings, parents, cousins, aunts and uncles.
If the new beneficiary you want to transfer the plan to has their own 529 plan already, another option is to roll over the funds to their existing 529 plan. Both options have their own benefits, and either could be best for you, depending on your individual situation.
Advantages of a 529 Plan Rollover
- It can make things easier by only having to manage one account
- You’ll minimize costs by only paying one set of fees inside of two or more
- You can optimize your investment experience by choosing the most user-friendly plan
- You can choose a plan that better suits your current needs
Advantages of a Transfer
- They’re always tax-free in all cases
- You can transfer as often as you want, whereas you’re limited to one 529 rollovers every 12 months
- Transfers are typically processed faster than 529 rollovers, which can take time, meaning that you lose time in the market which could impact on your investment over the long term.
As an alternative, you can roll over a 529 plan to a different owner. This is a Special Rollover when you keep the same beneficiary while changing the account owner. In this case, the same tax rules apply as other 529 rollovers.
When To Consider A 529 Plan Rollover
There are a few reasons why it may be a good idea to consider rolling over your 529 plan. If your current 529 plan involves high fees, such as annual maintenance fees, you could benefit from rolling over to a plan with lower fees. Equally, if you have more than one state 529 plan, consolidating your assets can make things easier to manage, as well as minimize the fees you have to pay.
Another common reason for a 529 rollover is that you’ve recently moved to a new state. Some states provide tax benefits for contributions, but not all do. If you’ve moved to a state offering such benefits, rolling over your plan could help you to optimize your tax return. Or you simply may not like the service offered by your current 529 plan and want an upgrade.
How does a 529 Plan Rollover Work
When it comes to how to roll over a 529 plan, there are a number of 529 plan rollover rules that come into play, including:
- You don’t need to roll over your plan in order to change the plan’s beneficiary: you can do this at any time without a rollover.
- Some states have to recapture tax rules that may mean you need to repay tax benefits you’ve previously received, such as a state tax deduction or credit based on your contributions.
- You can only make one tax-free rollover every 12 months per beneficiary.
Under 529 transfer rules, a rollover from one 529 plan to another 529 plan is tax-free and does not count as income on the Free Application for Federal Student Aid (FAFSA). This includes a distribution that is deposited in another 529 plan within 60 days of the distribution.
You can move a 529 plan from one state to another, but when rolling over a 529 plan to another state, that state may consider this an investment change. Equally, the outbound state may consider an outbound rollover to an out-of-state 529 plan as a non-qualified distribution, meaning it could impact your tax return. The rules vary from state to state so it’s important to check the guidelines of the states involved.
Note you can also do a partial 529 plan rollover.
Frequently Asked Questions (FAQs) on 529 Plan Rollovers
Can a 529 plan be rolled over?
Yes, you can roll over 529 plans to another 529 in another state, with the same beneficiary or a different beneficiary. You only need to consider the rules around rollovers, as well as specific tax implications in the states involved.
What can I roll my 529 plan into?
You can only roll over a 529 to another 529 plan. You can either do this directly, when the funds are delivered directly to a new 529 account, or the money can be disbursed to you as a check, which is known as an indirect rollover. However, you’ll need to deposit the funds into a new 529 account within 60 days.
How long do you have to roll over a 529 plan?
If you make an indirect rollover, when the funds are disbursed to you rather than directly to your new plan, you have 60 days to deposit them into your new account. You can initiate a plan rollover at any time as long as the beneficiary hasn’t completed a rollover in the last 12 months.
What is a 529 rollover contribution?
A 529 rollover contribution is a distribution from one qualified 529 plan to another. This happens when a 529 plan is rolled over and the funds are distributed into the new plan.
Are 529 plans transferable between states?
The answer is yes, but it may have tax implications, depending on the state. Some states consider a transfer from one 529 plan in the state to another 529 plan in the same state to be an investment change and not a rollover.
Some states consider an outbound rollover to an out-of-state 529 plan to be a non-qualified distribution. The earnings portion of an outbound rollover may be subject to state income tax and recapture of state income tax benefits but is still considered to be tax-free at the federal level. The rollover is not reported as income on the FAFSA.
How often can you roll over a 529 plan?
Under federal tax rules, you can roll over one 529 plan per beneficiary every 12 months without it being subject to tax. If you roll over more than one 529 plan within a 12-month period, it will be classified as a non-qualified distribution and you’ll need to pay federal income taxes on your 529 revenue, as well as a 10% penalty.