529 for private elementary school?

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hmw
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529 for private elementary school?

Post by hmw » Sat Feb 03, 2018 10:08 pm

We have a 6-year old son who is going to a private school. His tuition for next year will be about 9k. We normally pay this with our cash flow.

We have a 529 account that has about 100k in it. About 80k is the principal and 20k is growth. We currently contribute 1k a month. We live in TX so there is no state tax benefits for the 529 account.

I am thinking that with the new tax law, is it better to withdraw 9k from 529 account to pay for the private school tuition, and contribute 9k in addition to the usual 12k contribution per year? This will have the benefits of reducing the gains in the 529 account in the future. This may save us some tax panalty money if our son does not use up all the money in the 529 account. Am I thinking correctly?

A related question. When one withdraw, say 10k from the 529 account for elementary school tuition, is it withdrawing from growth, from the principal, or a combination of the two? How does a 529 account keep track of cost basis?

Thanks

clydewolf
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Re: 529 for private elementary school?

Post by clydewolf » Sun Feb 04, 2018 10:31 am

While federal tax rules allow for 529 funds to pay for primary education, the 529 you set up prior to 2018 would not allow that. State 529 plans need to change their rules before 529 funds can be used for primary and secondary education expenses. That means the state legislature must take some action.

DawgFan2001
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Re: 529 for private elementary school?

Post by DawgFan2001 » Sun Feb 04, 2018 10:56 am

clydewolf wrote:
Sun Feb 04, 2018 10:31 am
While federal tax rules allow for 529 funds to pay for primary education, the 529 you set up prior to 2018 would not allow that. State 529 plans need to change their rules before 529 funds can be used for primary and secondary education expenses. That means the state legislature must take some action.
Can you explain? Doesn’t the Federal law treat applicable K -12 withdrawals as qualified withdrawals? Are you saying that perhaps the state will tax the growth? Certainly the 529 plan cannot refuse a withdrawal?

Admiral
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Re: 529 for private elementary school?

Post by Admiral » Sun Feb 04, 2018 11:10 am

clydewolf wrote:
Sun Feb 04, 2018 10:31 am
While federal tax rules allow for 529 funds to pay for primary education, the 529 you set up prior to 2018 would not allow that. State 529 plans need to change their rules before 529 funds can be used for primary and secondary education expenses. That means the state legislature must take some action.
Please post your source for this information because it looks to be erroneous.

motorcyclesarecool
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Re: 529 for private elementary school?

Post by motorcyclesarecool » Sun Feb 04, 2018 11:18 am

All it will take is for one state’s 529 plan to allow K-12 tuition, and anybody interested in a state refusing to allow them will head for the exits.
Understand that choosing an HDHP is very much a "red pill" approach. Most would rather pay higher premiums for a $20 copay per visit. They will think you weird for choosing an HSA.

GreenGrowTheDollars
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Re: 529 for private elementary school?

Post by GreenGrowTheDollars » Sun Feb 04, 2018 11:18 am

The IRS code allowed (but did not require) individual states to establish 529 college savings plans. Each state then passed legislation with specifics for that state's plan(s). Some states allowed tax deductions under certain circumstances. Some states were more limited than the limits imposed federally. Most (all?) states echoed the federal limitations on qualified expenditures by specific enumeration of allowable expenditures. (That is, college qualified expenditures.)

The advice you're hearing is that the federal legislation was passed on such short notice that many (perhaps all?) states have not yet had time to consider revised legislation. In many states, the legislatures may only meet during a few months each year or even every other year. Plans are warning that there may be unexpected adverse consequences if you withdraw funds from a 529 to pay expenses that are allowed under the new federal law but not (yet) allowed under the state's laws for that 529 plan. Proceed at your own risk.

Congress did nobody any favors in passing this change with less than a week's notice. A year would have been rational.

I wouldn't be shocked to find that some states do not go along with the new change.

GreenGrowTheDollars
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Re: 529 for private elementary school?

Post by GreenGrowTheDollars » Sun Feb 04, 2018 11:22 am

motorcyclesarecool wrote:
Sun Feb 04, 2018 11:18 am
All it will take is for one state’s 529 plan to allow K-12 tuition, and anybody interested in a state refusing to allow them will head for the exits.
Could be. On the other hand, many states that allow income tax deductions only allow deductions if you contribute to the plans operated by your state. Clawback could be an issue.

Admiral
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Re: 529 for private elementary school?

Post by Admiral » Sun Feb 04, 2018 11:26 am

Since the majority of any tax/penalty that would be due is at the Fed level (which is now moot) my accountant advised that the downside risk is your state tax rate.

In other words, if you take 10k out, you risk whatever your state tax rate on the gain is IF (and that's an IF) they disallow it. My state tax rate is 3%. If 20% is gain, then I would face $60 in tax. But, I could then put 10k back in and take the deduction.

I have not done this yet, but I probably will. I use Vanguard's plan (Nevada 529).

ERISA Stone
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Re: 529 for private elementary school?

Post by ERISA Stone » Sun Feb 04, 2018 11:32 am

motorcyclesarecool wrote:
Sun Feb 04, 2018 11:18 am
All it will take is for one state’s 529 plan to allow K-12 tuition, and anybody interested in a state refusing to allow them will head for the exits.
Is there a precedent for this comment based on some other tax benefit? If I were in this situation, I would say, "man I wish I lived in that state." I wouldn't even consider moving. The only scenario I can imagine moving for is for health purposes. For example, if someone in my family had a condition in which medical marijuana was needed, I might move to a state that allowed it.

Admiral
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Re: 529 for private elementary school?

Post by Admiral » Sun Feb 04, 2018 11:35 am

ERISA Stone wrote:
Sun Feb 04, 2018 11:32 am
motorcyclesarecool wrote:
Sun Feb 04, 2018 11:18 am
All it will take is for one state’s 529 plan to allow K-12 tuition, and anybody interested in a state refusing to allow them will head for the exits.
Is there a precedent for this comment based on some other tax benefit? If I were in this situation, I would say, "man I wish I lived in that state." I wouldn't even consider moving. The only scenario I can imagine moving for is for health purposes. For example, if someone in my family had a condition in which medical marijuana was needed, I might move to a state that allowed it.
You don't have to move. Many states allow you to use another state's plan AND take the deduction. The rules are different based on the state. That's why I use Vanguard's even though I live in PA.

motorcyclesarecool
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Re: 529 for private elementary school?

Post by motorcyclesarecool » Sun Feb 04, 2018 11:36 am

ERISA Stone wrote:
Sun Feb 04, 2018 11:32 am
motorcyclesarecool wrote:
Sun Feb 04, 2018 11:18 am
All it will take is for one state’s 529 plan to allow K-12 tuition, and anybody interested in a state refusing to allow them will head for the exits.
Is there a precedent for this comment based on some other tax benefit? If I were in this situation, I would say, "man I wish I lived in that state." I wouldn't even consider moving. The only scenario I can imagine moving for is for health purposes. For example, if someone in my family had a condition in which medical marijuana was needed, I might move to a state that allowed it.
By “head[ing] for the exits,” what I meant was people would transfer funds OUT of their restrictive state 529, and roll them into the permissive state.
Understand that choosing an HDHP is very much a "red pill" approach. Most would rather pay higher premiums for a $20 copay per visit. They will think you weird for choosing an HSA.

Hoosier CPA
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Re: 529 for private elementary school?

Post by Hoosier CPA » Sun Feb 04, 2018 11:39 am

I'm interested in this topic. Indiana provides a 20% tax credit for 529 contributions up to $5,000 (max state credit $1,000/year). I don't know yet if a withdrawal from the Indiana 529 plan used to pay for K-12 would result in some kind of clawback on this credit. I don't think anyone knows this for sure yet.

DawgFan2001
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Re: 529 for private elementary school?

Post by DawgFan2001 » Sun Feb 04, 2018 11:50 am

Admiral wrote:
Sun Feb 04, 2018 11:26 am
Since the majority of any tax/penalty that would be due is at the Fed level (which is now moot) my accountant advised that the downside risk is your state tax rate.

In other words, if you take 10k out, you risk whatever your state tax rate on the gain is IF (and that's an IF) they disallow it. My state tax rate is 3%. If 20% is gain, then I would face $60 in tax. But, I could then put 10k back in and take the deduction.

I have not done this yet, but I probably will. I use Vanguard's plan (Nevada 529).
This is helpful. I’m currently saving and paying for K-12 using an Ally savings (contribute monthly to build up to 3 required tuition payments per year). That interest is taxable both at federal and state level. I opened a 529 earmarked for K-12 only to basically do the same thing at a higher interest rate. No tax break on contribution because that is eaten up by higher education 529. I guess the only potential risk is if the state could tack on a 10% penalty.

GreenGrowTheDollars
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Re: 529 for private elementary school?

Post by GreenGrowTheDollars » Sun Feb 04, 2018 11:51 am

Admiral wrote:
Sun Feb 04, 2018 11:35 am
ERISA Stone wrote:
Sun Feb 04, 2018 11:32 am
motorcyclesarecool wrote:
Sun Feb 04, 2018 11:18 am
All it will take is for one state’s 529 plan to allow K-12 tuition, and anybody interested in a state refusing to allow them will head for the exits.
Is there a precedent for this comment based on some other tax benefit? If I were in this situation, I would say, "man I wish I lived in that state." I wouldn't even consider moving. The only scenario I can imagine moving for is for health purposes. For example, if someone in my family had a condition in which medical marijuana was needed, I might move to a state that allowed it.
You don't have to move. Many states allow you to use another state's plan AND take the deduction. The rules are different based on the state. That's why I use Vanguard's even though I live in PA.
"Many" = 6 (Arizona, Kansas, Minnesota, Missouri, Montana, Pennsylvania) -- the other states either only allow deduction/credit for contribution to their own state's plan, meaning you have to be a resident of that state, or they don't have income tax at all.

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Smorgasbord
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Re: 529 for private elementary school?

Post by Smorgasbord » Sun Feb 04, 2018 12:36 pm

Hoosier CPA wrote:
Sun Feb 04, 2018 11:39 am
I'm interested in this topic. Indiana provides a 20% tax credit for 529 contributions up to $5,000 (max state credit $1,000/year). I don't know yet if a withdrawal from the Indiana 529 plan used to pay for K-12 would result in some kind of clawback on this credit. I don't think anyone knows this for sure yet.
Here's the relevant part of Indiana's tax code. From what I can tell, the big differences between implimentation in the various states depends on whether or not the definition of "Qualified higher education expenses" was copied into the state law, or incorporated by reference into the state law. Indiana incorporated by reference, so it seems that the federal change was immediately reflected in Indiana's law.

Indiana Code 6 - 3 - 3 - 12:
(g) As used in this section, “qualified higher education expenses” has the meaning set forth in IC 21-9-2-19.5 .
(h) As used in this section, “qualified withdrawal” means a withdrawal or distribution from a college choice 529 education savings plan that is made:
(1) to pay for qualified higher education expenses, excluding any withdrawals or distributions used to pay for qualified higher education expenses if the withdrawals or distributions are made from an account of a college choice 529 education savings plan that is terminated within twelve (12) months after the account is opened;
The referenced Indiana Code 21-9-2-19.5
“Qualified higher education expenses” has the meaning set forth in Section 529 of the Internal Revenue Code

Rupert
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Re: 529 for private elementary school?

Post by Rupert » Sun Feb 04, 2018 1:18 pm

OP -- You're in Texas so it shouldn't be very complicated for you. It's more complicated in states that might try to clawback state tax deductions. For everyone though, the safest thing to do is ask whoever operates your state plan what your state's rules are going forward. (I believe this to be true whether you invest in your state's plan or not. They may direct you to an accountant, but it doesn't hurt to ask. Many plans already have guidance on their websites.) They would know now whether new legislation is required at the state level for K-12 distributions to be qualified. They may have some inside knowledge re when/whether such legislation is likely.

When you withdraw from a 529, I believe the funds are proportionally withdrawn from principal and interest and from all funds in the plan. In other words, I don't think you can specify that you want this year's distribution to come from a conservative investment you have chosen as a short-term investment. For that reason, it may be a good idea to set up separate 529 plans for elementary/middle school and highschool/college.

motorcyclesarecool
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Re: 529 for private elementary school?

Post by motorcyclesarecool » Sun Feb 04, 2018 3:07 pm

Utah Education Savings Plan (name changing to my529) website states k-12 tuition can be paid through the plan. I have emailed to confirm whether this applies for out-of-state beneficiaries at out-of-state schools.
Understand that choosing an HDHP is very much a "red pill" approach. Most would rather pay higher premiums for a $20 copay per visit. They will think you weird for choosing an HSA.

motorcyclesarecool
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Re: 529 for private elementary school?

Post by motorcyclesarecool » Mon Feb 05, 2018 12:10 pm

motopolitico wrote:My state 529 doesn’t look like it’s ready to handle the changes from the Tax Cuts & Jobs Act... If I transferred my daughters’ 529s from (home state) to my529, would I be able to use it for K-12 tuition at a school in (home state)?
my529 wrote:Yes, you would be able to make a withdrawal from your account for any qualified K-12 institution tuition. The withdrawal must simply be sent to the account owner...
motopolitico wrote:So that I can be thorough prior to making a five figure mistake, can you clarify or point me to the definition of “any qualified K-12 institution”?

Thank you kindly.
my529 wrote:Public, private, or religious schools are considered qualified for K-12 tuition.
Understand that choosing an HDHP is very much a "red pill" approach. Most would rather pay higher premiums for a $20 copay per visit. They will think you weird for choosing an HSA.

jdb
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Re: 529 for private elementary school?

Post by jdb » Mon Feb 05, 2018 2:21 pm

From pure economic standpoint does not make much sense to me to withdraw 529 monies earlier than college. Real value of 529 is tax free increase in value over time through dividends, interest, capital gains and absolute increase in value of underlying portfolio assets. The earlier you use the 529 monies the less value you receive from time value of investing. And can of course use for grad school, the 529 we set up for daughter in elementary school lasted through Ivy League tuition and almost two years of Med school and included lots of tax free gains because of length of time we held the portfolio before using it. Good luck.

Admiral
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Re: 529 for private elementary school?

Post by Admiral » Mon Feb 05, 2018 2:26 pm

jdb wrote:
Mon Feb 05, 2018 2:21 pm
From pure economic standpoint does not make much sense to me to withdraw 529 monies earlier than college. Real value of 529 is tax free increase in value over time through dividends, interest, capital gains and absolute increase in value of underlying portfolio assets. The earlier you use the 529 monies the less value you receive from time value of investing. And can of course use for grad school, the 529 we set up for daughter in elementary school lasted through Ivy League tuition and almost two years of Med school and included lots of tax free gains because of length of time we held the portfolio before using it. Good luck.
This is true but many people may now use it as a pass-though entity. Put the money in on Dec 31, get the deduction, take it out tax free on Jan 1, rinse and repeat. Assuming the law allows this. Unclear.

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lthenderson
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Re: 529 for private elementary school?

Post by lthenderson » Mon Feb 05, 2018 2:32 pm

When I go to log into our kids 529 accounts, there is a big warning saying that it may take state legislation for any tax benefits to apply to k-12 withdrawals and that a tax attorney is recommended before any withdrawals are made for those purposes.

Without the tax benefits, I don't see the benefit of putting money in that you are going to pull right back out, especially if the markets really fall in the short term.

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UpsetRaptor
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Re: 529 for private elementary school?

Post by UpsetRaptor » Mon Feb 05, 2018 4:59 pm

Several states - Delaware, Mississippi, Missouri, Oklahoma, Utah, South Carolina, Virginia, and Wisconsin -- have clarified that a distribution for K-12 expenses will be treated as a qualified expense for state tax purposes. Others are still considering what to do.

Edit: And if you live in a state with no income tax like Texas (e.g. OP), I don't see why any state rules would matter anyways. Federal benefit is there, there's no state deduction to begin with...
hmw wrote:
Sat Feb 03, 2018 10:08 pm
A related question. When one withdraw, say 10k from the 529 account for elementary school tuition, is it withdrawing from growth, from the principal, or a combination of the two? How does a 529 account keep track of cost basis?
Rupert's right, it's proportional. If your overall rate of return across the 529 is 25% gain, then the 10K withdrawal will be 8K principal 2K gain. OP, if you had large gains built up from earlier investments, I see no reason why you couldn't do what you propose, withdraw and contribute to re-set some cost basis.
Last edited by UpsetRaptor on Mon Feb 05, 2018 5:54 pm, edited 1 time in total.

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UpsetRaptor
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Re: 529 for private elementary school?

Post by UpsetRaptor » Mon Feb 05, 2018 5:52 pm

motorcyclesarecool wrote:
Sun Feb 04, 2018 11:36 am
ERISA Stone wrote:
Sun Feb 04, 2018 11:32 am
motorcyclesarecool wrote:
Sun Feb 04, 2018 11:18 am
All it will take is for one state’s 529 plan to allow K-12 tuition, and anybody interested in a state refusing to allow them will head for the exits.
Is there a precedent for this comment based on some other tax benefit? If I were in this situation, I would say, "man I wish I lived in that state." I wouldn't even consider moving. The only scenario I can imagine moving for is for health purposes. For example, if someone in my family had a condition in which medical marijuana was needed, I might move to a state that allowed it.
By “head[ing] for the exits,” what I meant was people would transfer funds OUT of their restrictive state 529, and roll them into the permissive state.
State income tax deduction/credit is based on state of residence. If Illinois (still in consideration) goes against the flow and decides to try to clawback prior deductions used for K-12 expenses, an IL resident wouldn't gain any state-level tax benefits by transferring into Missouri (K-12 permissive) 529 plan.

sj1961
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Re: 529 for private elementary school?

Post by sj1961 » Mon Feb 05, 2018 6:15 pm

lthenderson wrote:
Mon Feb 05, 2018 2:32 pm
When I go to log into our kids 529 accounts, there is a big warning saying that it may take state legislation for any tax benefits to apply to k-12 withdrawals and that a tax attorney is recommended before any withdrawals are made for those purposes.

I find this utterly maddening. Why do you need a tax lawyer to interpret a state law that the state is unable to interpret ?

There really should be protections for the public against the government publishing rules effective retroactively. There should be a reasonable time frame within which they are required to provide answers/guidance. By reasonable I mean something like 3 months max. Not til the end of the year

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woof755
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Re: 529 for private elementary school?

Post by woof755 » Mon Feb 05, 2018 6:17 pm

Hoosier CPA wrote:
Sun Feb 04, 2018 11:39 am
I'm interested in this topic. Indiana provides a 20% tax credit for 529 contributions up to $5,000 (max state credit $1,000/year). I don't know yet if a withdrawal from the Indiana 529 plan used to pay for K-12 would result in some kind of clawback on this credit. I don't think anyone knows this for sure yet.
This is exactly why the new rule change is trouble for state budgets.

Imagine you have a kid in private school but you don't have a 529. Someone tells you instead of writing that $5000 check for tuition to the private school, open a 529 and invest the $5000 for one day. Then, take it out again and pay tuition. Voila! You saved $1000 on your state taxes and the state incentivized you to do absolutely nothing productive at all. Now imagine 10,000 people do it and the state is out $10 million bucks for nothing.

This is why states will be deciding whether to allow this. Or they will be deciding to allow this and then reconsidering whether to offer a state income tax deduction incentive.

There is precedent for states doing away with the state income tax deduction. North Carolina did it about 5ish years ago.
"By singing in harmony from the same page of the same investing hymnal, the Diehards drown out market noise." | | --Jason Zweig, quoted in The Bogleheads' Guide to Investing

sj1961
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Re: 529 for private elementary school?

Post by sj1961 » Mon Feb 05, 2018 8:49 pm

woof755 wrote:
Mon Feb 05, 2018 6:17 pm
Hoosier CPA wrote:
Sun Feb 04, 2018 11:39 am
I'm interested in this topic. Indiana provides a 20% tax credit for 529 contributions up to $5,000 (max state credit $1,000/year). I don't know yet if a withdrawal from the Indiana 529 plan used to pay for K-12 would result in some kind of clawback on this credit. I don't think anyone knows this for sure yet.
This is exactly why the new rule change is trouble for state budgets.

Imagine you have a kid in private school but you don't have a 529. Someone tells you instead of writing that $5000 check for tuition to the private school, open a 529 and invest the $5000 for one day. Then, take it out again and pay tuition. Voila! You saved $1000 on your state taxes and the state incentivized you to do absolutely nothing productive at all. Now imagine 10,000 people do it and the state is out $10 million bucks for nothing.

This is why states will be deciding whether to allow this. Or they will be deciding to allow this and then reconsidering whether to offer a state income tax deduction incentive.

There is precedent for states doing away with the state income tax deduction. North Carolina did it about 5ish years ago.
Yes but I think you can do this now for college. Put in money, take the state deduction and then withdraw so it isn't new, but is expanded to cover more than higher education

hmw
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Re: 529 for private elementary school?

Post by hmw » Tue Feb 06, 2018 8:13 pm

johne417 wrote:
Mon Feb 05, 2018 4:59 pm
Several states - Delaware, Mississippi, Missouri, Oklahoma, Utah, South Carolina, Virginia, and Wisconsin -- have clarified that a distribution for K-12 expenses will be treated as a qualified expense for state tax purposes. Others are still considering what to do.

Edit: And if you live in a state with no income tax like Texas (e.g. OP), I don't see why any state rules would matter anyways. Federal benefit is there, there's no state deduction to begin with...
hmw wrote:
Sat Feb 03, 2018 10:08 pm
A related question. When one withdraw, say 10k from the 529 account for elementary school tuition, is it withdrawing from growth, from the principal, or a combination of the two? How does a 529 account keep track of cost basis?
Rupert's right, it's proportional. If your overall rate of return across the 529 is 25% gain, then the 10K withdrawal will be 8K principal 2K gain. OP, if you had large gains built up from earlier investments, I see no reason why you couldn't do what you propose, withdraw and contribute to re-set some cost basis.
Thanks for your helpufl info!

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