What To Do With An Overfunded 529 Account

We're going to talk about overfunded 529s. I gave a talk the other day to some internists, hospitalists here in Utah, a lot of friends of mine, and it was fun to talk to them. But I added a section to the talk because this is so common in Utah. You know, we've got schools here. Snow College is a small college here in our state. The tuition is $4,000, right? Some are other state universities. Utah State's six or $7,000. Brigham Young University, six or $7,000 a year. In t our flagship state university, the University of Utah, everyone's mad right now because tuition has gone up to $12,000. Right? School here is just pretty cheap. And there are other states like this. I've talked to some of you out there. I think Alabama is relatively inexpensive and some other states have got relatively cheap schools. And if your kids end up going to these sorts of schools and you saved a gazillion dollars in their 529, you're going to have an overfunded 529. I started putting more money in our 529s a few years ago because our oldest told me she thought she was going to be a doctor. And I'm like, well, she's certainly capable of being a doctor. And so I started putting the maximum amount in there every year for a few years. And since I was giving it to her, I figured I had to give it to the other kids. So we put a whole bunch of money into 529s over three or four or five years a few years ago. And now they've all got six figure 529s. Well, the oldest is at an inexpensive school. The second oldest is only applying to inexpensive school. The sophomore is saying he's probably going to do the same thing, right? And the youngest is nine years old, also with a six figure 529. By the time she gets to school, there's going to be plenty of money in there. So we have an overfunded 529 problem. And I know a lot of you out there do too. Now, if somebody goes to med school or dental school, that might not be the case, right? You're going to burn through your 529 and probably then some, and they may end up borrowing some money as well. But if you've really been deliberate about saving for 529s, you started early or you were putting a lot of money in there, especially with the way the US stock market's performed in the last five, 10, 15 years. They probably have a lot of money in there and they may get to the end of school, especially if you leave it invested aggressively all 15 or 18 years or whatever until they started school and another four or five or six or eight years while they're in school. There might be quite a bit of money there at the end left over. What can you do with it? Well, number one, you can change the beneficiary to another kid, right? Of the same generation. It can be their sibling, it can be a cousin, that sort of thing. You can just change the beneficiary. You can even change the beneficiary to yourself and go spend it on a cooking class in Italy. Anything that actually qualifies. And you got to check the list of institutions that qualify, right. Your cooking class in Italy might not count, but you can look into it. Taking flying lessons probably counts, those sorts of things. It's a relatively broad what you can use a 529 to pay for as far as education goes. But that's one option. I think for a lot of people, the option they're choosing is what we're going to do in our family. We're just going to change the beneficiaries to their kids. Now none of my kids have kids and by the time they have a kid, it might be another 10 years from now. And by the time that kid gets to college, It'll be another 18 years after that. That's 28 more years for that money to compound. How many times is that money going to double in 28 years? Probably three times. Right. So it might be 8x what's in there now. Right. And that's pretty cool to think that maybe I've already saved up for the next generation and who knows, maybe the generation after that. So that's fun that you can have this. Changing beneficiaries. It's not a trust, right? But it can be a multi generational education kind of a plan. Years ago, people would set up trusts, education trusts, to try to provide for the education of a few generations in the future. You maybe don't have to do that anymore. You can probably do that just with a 529. As long as the people of each generation play along and they do the right thing and make sure the money's invested reasonably and keep changing the beneficiary to the next generation. That is an option. Another thing you can always do with the 529 is technically your money, right? You can pull the money out, you can just take the Money out and spend it on a sailboat, spend it on whatever that is an option. Now, there are some downsides to doing that. The main one is that most withdrawals that you're using on education from a 529 come out totally tax free. No state tax, no federal tax. It's a great benefit if you pull it out and buy a sailboat with it. You actually do have to pay tax. And you don't pay tax at qualified dividend rates or long term capital gains rates. You pay them at ordinary income tax rates. So if your marginal tax rate is 37%, that's what you're paying on those withdrawals plus 10%, there's a 10% penalty. That's not the end of the world, right? I mean, you did get tax protected growth for 5, 10, 15, 25 years, whatever. And you can pull that money out and pay the taxes on it and spend it on whatever you want. It's not the end of the world. Another cool thing that came out of The Secure Act 2.0 is a Roth IRA rollover option. And if the money's been in the account for 15 years, you can roll it into the beneficiary's Roth IRA. There are some limits on it. The first limit is you can never roll over more than a total of $35,000. So if you have a six figure leftover 529, this isn't going to work for you. But if you got, you know, $17,000 left over, this is going to work great for you. Secondly, this takes the place of that beneficiary's annual contribution, right? You can't put $7,000 from your earnings in there and roll over $7,000 from a 529. It's one of the other. You only get to make one contribution. But basically you can use 529 money to do it. And you don't have to pay taxes on it when you do that. So this money that you put in there grew tax free for years and years and years and years. Now it's in a Roth ira. It can continue to grow tax free. So you can't put. It takes the place of regular contribution. So you can't put more in there than the contribution amount for 2024. That's $7,000 for someone, $150,000. So you can put $7,000 in there this year. Well, okay, what about the other $28,000? Well, next year you can put in $7,000 or $7,500 or whatever. It goes up to okay, well, so it's going to take you five or six or seven years to get as much as you can get into that ira. But it might help a kid that's really trying to establish themselves in their 20s and doesn't have money to save for retirement. This is a good way to save for retirement. You can tell them if you don't blow it on college, you can use it for your ira. It's kind of a cool feature. It's not going to take care of a dramatically overfunded 529, but it's a nice option to have. So those are kind of your options when it comes to a 529. You can change the beneficiary, you can just pull the money out and spend it. You can do a Roth IRA rollover and who knows, maybe Congress and the IRS will come up with something else you can do with it in the future. But for now, those are the main options. As you can see, it's not the end of the world if you have an overfunded 529. But you don't have to have an overfunded 529, right? You don't have to pay for all of college out of a 529. Most of you listening to this are high income people and you're probably still working while your kids are in college. And you're probably still a high earner. You can cash flow a lot of that, right? If you cash flow $15,000 a year and you pull $15,000 a year out of the 529 and that's how you pay for college, you don't need a huge 529. You don't need a six figure 529 to pay for that. If you save up 30 or 40 or $50,000, that's going to go a long way toward their college, especially when it's combined with your cash flow. And that way, hopefully you can empty out the 529. You don't have to worry about this issue anyway. But I hope that's all helpful to you. Some of you out there know that we started 529s for our nieces and nephews years ago and we actually have had a match for them. If they put their earned money into it, we would match it 200%. So if they earn 500 bucks and put it in their 529, we'd put $1,000 of our money in there. And at this point, I think I've got seven or eight of them now in college, withdrawing from their 529s. You know, they tell me, hey, Uncle Jim, I need $532 and I venmo them $532 and pull $532 out of their 529 into my bank account. And that's pretty fun. But if they have any money left over in their 529s, what I'm probably doing is just making them the owner of the 529 rather than me being the owner and them the beneficiary. They can be the beneficiary and their owner and now it's their problem. They can do whatever they want with it. They want to pull it out and pay taxes and a 10% penalty on it, they can knock themselves out. I view it as their money. So lots of options for what you can do with an overfunded 529 plan. But they are a great, great way to save for college. I mean, oftentimes you get a state tax break, it all grows tax free while it's in there. It comes out tax free when used for education. You can use it for just about everything school related except transportation. Right? You can't buy a car with it, you can't pay for your parking pass, you can't pay for a bus pass with it. But just about everything else goes and they're pretty cool.

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