States That Don't Tax 529-to-Roth Rollovers

[jb10]

Secure Act permits 529 rollovers to Roth and they are exempt from federal tax, but not all the states follow the fed.

ARE 529-TO-ROTH IRA ROLLOVERS SUBJECT TO STATE TAX? [3/2024]
https://irahelp.com/slottreport/are-529 ... state-tax/

States with no income tax at all: Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington and Wyoming

States that follow federal law: Alabama, Arizona, Delaware, Georgia, Hawaii, Idaho, Kansas, Kentucky, Maine, Maryland, Nebraska, New Mexico, North Carolina, North Dakota, Ohio, Oregon, Pennsylvania, South Carolina, Virginia, West Virginia and Wisconsin.

States that make you pay back the deduction if you do a rollover: Illinois, Indiana, Iowa, Massachusetts, Michigan, Minnesota, Montana, New York, Utah and Vermont.

California taxes and then adds a 2.5% surcharge.

(If your son or daughter lives in another state but has a 529 in yours, this may be of interest down the road for a Roth rollover.)

[winterfan]

I had no idea. Thanks for posting this. Of course my state will recapture the credit. That's incentive not to overfund our plan for sure. I'll probably still do enough to get the credit, but not more than that.

[feehater]

Which state does this apply to? The one where the owner is the resident when they first contribute? Or when they withdraw? Or where the 529 is based? Or where the beneficiary is living at the time of the rollover since they’re the one doing the rolling over?

[zeeke42]

Which state does this apply to? The one where the owner is the resident when they first contribute? Or when they withdraw? Or where the 529 is based? Or where the beneficiary is living at the time of the rollover since they’re the one doing the rolling over?

I have the same questions. Also, what happens if some contributions to the account were made in one of these states and some not? Is there a pro-rata rule? Also, are there any recordkeeping requirements around this given that it didn't exist in the past? How in the world would they figure this out in an audit if the contributions were made 20 years ago?

[jstorz]

Sounds like for those states (apart from California), this is recapture only if you've taken a state deduction for contributions. Would be nice to avoid that but nowhere near as impactful as owing income tax on the whole conversion.

[secondcor521]

For states that are not playing nice with the 529->Roth rollovers, it may be a viable strategy to roll the 529 plan over the "bad" state to a 529 in a "good" state and then do the 529->Roth rollover from there.

The advantage is that you might be able to avoid the surcharges/taxes/recapture.

The possible disadvantage is that this strategy might run afoul of the 15-year and 5-year requirements in the law. Of course, we're all awaiting the IRS regulations to clarify these aspects of the new law.

[jb10]

Which state does this apply to? The one where the owner is the resident when they first contribute? Or when they withdraw? Or where the 529 is based? Or where the beneficiary is living at the time of the rollover since they’re the one doing the rolling over?

Better figure that out. You'll forfeit your deduction! They'll claw it back, as they say.

Take Ohio, for example. Owner needs to reside in the state where the 529 is based to do the rollover. So, in general, there is a preferential treatment to keep funds in the state according to owner. Say you do a Vanguard 529. That one is based in Utah. Only if the owner resides in Utah will you get the state deduction. Always read the fine print--that's what the footnote says at Vanguard.

[toddthebod]

For states that are not playing nice with the 529->Roth rollovers, it may be a viable strategy to roll the 529 plan over the "bad" state to a 529 in a "good" state and then do the 529->Roth rollover from there.

The advantage is that you might be able to avoid the surcharges/taxes/recapture.

The possible disadvantage is that this strategy might run afoul of the 15-year and 5-year requirements in the law. Of course, we're all awaiting the IRS regulations to clarify these aspects of the new law.

That doesn't generally work. The tax law in many states is agnostic to which 529 plan you invest in. Furthermore, that would backfire in states like New York which recapture deductions if you rollover to another plan.

[InvestorDN]

States that make you pay back the deduction if you do a rollover: Illinois, Indiana, Iowa, Massachusetts, Michigan, Minnesota, Montana, New York, Utah and Vermont.

FYI - last month the Massachusetts DOR posted the following updated guidance saying it will follow federal law:

Effective for tax years beginning after December 31, 2023, federal legislation allows a beneficiary of a qualified tuition program (529 plan) to make a tax-free rollover distribution from such a plan to a Roth IRA in certain circumstances. Eligible rollovers from a 529 plan to a Roth IRA are limited in the following ways:
- The 529 plan must have been opened for more than 15 years;
- The distribution amount cannot exceed the amount contributed to the 529 plan within 5 years of the distribution (including earnings);
- The rollover distributions are subject to annual Roth IRA limitations; and
- The total amount a beneficiary can rollover in their lifetime is limited to $35,000.
Massachusetts generally follows the federal treatment of 529 plans and contributions to Roth IRAs. As a result, distributions from a 529 plan that are rolled over to a Roth IRA are not included in Massachusetts gross income when they are excluded from federal gross income.

(source: https://www.mass.gov/info-details/tax-t ... s%20income.)

[toddthebod]

States that make you pay back the deduction if you do a rollover: Illinois, Indiana, Iowa, Massachusetts, Michigan, Minnesota, Montana, New York, Utah and Vermont.

FYI - last month the Massachusetts DOR posted the following updated guidance saying it will follow federal law:

Effective for tax years beginning after December 31, 2023, federal legislation allows a beneficiary of a qualified tuition program (529 plan) to make a tax-free rollover distribution from such a plan to a Roth IRA in certain circumstances. Eligible rollovers from a 529 plan to a Roth IRA are limited in the following ways:
- The 529 plan must have been opened for more than 15 years;
- The distribution amount cannot exceed the amount contributed to the 529 plan within 5 years of the distribution (including earnings);
- The rollover distributions are subject to annual Roth IRA limitations; and
- The total amount a beneficiary can rollover in their lifetime is limited to $35,000.
Massachusetts generally follows the federal treatment of 529 plans and contributions to Roth IRAs. As a result, distributions from a 529 plan that are rolled over to a Roth IRA are not included in Massachusetts gross income when they are excluded from federal gross income.

(source: https://www.mass.gov/info-details/tax-t ... s%20income.)

Just because they don't include the distribution in income doesn't mean they won't recapture the tax deduction.

[Circle the Wagons]

States that make you pay back the deduction if you do a rollover: Illinois, Indiana, Iowa, Massachusetts, Michigan, Minnesota, Montana, New York, Utah and Vermont.

FYI - last month the Massachusetts DOR posted the following updated guidance saying it will follow federal law:

Effective for tax years beginning after December 31, 2023, federal legislation allows a beneficiary of a qualified tuition program (529 plan) to make a tax-free rollover distribution from such a plan to a Roth IRA in certain circumstances. Eligible rollovers from a 529 plan to a Roth IRA are limited in the following ways:
- The 529 plan must have been opened for more than 15 years;
- The distribution amount cannot exceed the amount contributed to the 529 plan within 5 years of the distribution (including earnings);
- The rollover distributions are subject to annual Roth IRA limitations; and
- The total amount a beneficiary can rollover in their lifetime is limited to $35,000.
Massachusetts generally follows the federal treatment of 529 plans and contributions to Roth IRAs. As a result, distributions from a 529 plan that are rolled over to a Roth IRA are not included in Massachusetts gross income when they are excluded from federal gross income.

(source: https://www.mass.gov/info-details/tax-t ... s%20income.)

Did MA mess up the second limitation? I think it should say the distribution cannot "include" contributions from the last 5 years.

[toddthebod]

States that make you pay back the deduction if you do a rollover: Illinois, Indiana, Iowa, Massachusetts, Michigan, Minnesota, Montana, New York, Utah and Vermont.

FYI - last month the Massachusetts DOR posted the following updated guidance saying it will follow federal law:

Effective for tax years beginning after December 31, 2023, federal legislation allows a beneficiary of a qualified tuition program (529 plan) to make a tax-free rollover distribution from such a plan to a Roth IRA in certain circumstances. Eligible rollovers from a 529 plan to a Roth IRA are limited in the following ways:
- The 529 plan must have been opened for more than 15 years;
- The distribution amount cannot exceed the amount contributed to the 529 plan within 5 years of the distribution (including earnings);
- The rollover distributions are subject to annual Roth IRA limitations; and
- The total amount a beneficiary can rollover in their lifetime is limited to $35,000.
Massachusetts generally follows the federal treatment of 529 plans and contributions to Roth IRAs. As a result, distributions from a 529 plan that are rolled over to a Roth IRA are not included in Massachusetts gross income when they are excluded from federal gross income.

(source: https://www.mass.gov/info-details/tax-t ... s%20income.)

Did MA mess up the second limitation? I think it should say the distribution cannot "include" contributions from the last 5 years.

It's neither. The distribution cannot exceed the amount contributed prior to five years ago (and associated earnings.)

[Beachey]

Interesting discussion, though I think a few different situations are being combined here. I am familiar with the NY 529. NY State will clawback any tax deduction you take (presently limited to $10K per year) if you make a non-qualified withdrawal which for New York State is anything but College expenses and some apprenticeship programs. Due to this, I have started to put any excess contributions over $10K a year in the Fidelity National (New Hampshire) plan to open up some of these other options.

New York State taxes start with your Federal AGI and then you make adjustments. In FreeTax USA, they ask this question

"During 2023, did you or your spouse make a nonqualified withdrawal from an account established under New York's 529 college savings program?"

I think this question only refers to a NY-sponsored 529, not a national plan such as Fidelity? So I can use the Fidelity 529 funds for K-12 or a Roth IRA. But maybe I am wrong?

And in the future, if I move my residency out of New York the rules will still apply for my NY-sponsored 529 but I can't imagine it would apply to the Fidelity National plan once I am no longer a NY resident.

I may have to rethink my plan here.

[rkhusky]

Seems like it is might be implementation dependent. Is the tax deduction recaptured on your state tax return or by the 529 provider when you do the rollover? States likely do things differently.

[cowbman]

You have to love California's attitude of tax first and ask questions later. There is absolutely nothing stopping you from moving your California 529 account to any state that will not impose the 2.5% surcharge. As California does not provide any sort of tax benefits for use of a 529, there's no incentive not to do this.

[toddthebod]

You have to love California's attitude of tax first and ask questions later. There is absolutely nothing stopping you from moving your California 529 account to any state that will not impose the 2.5% surcharge. As California does not provide any sort of tax benefits for use of a 529, there's no incentive not to do this.

That doesn't solve anything, unless you are moving your job and family along with your 529 plan.

[jarjarM]

You have to love California's attitude of tax first and ask questions later. There is absolutely nothing stopping you from moving your California 529 account to any state that will not impose the 2.5% surcharge. As California does not provide any sort of tax benefits for use of a 529, there's no incentive not to do this.

It's not just moving CA 529 plan, one would have to move physically as well

[stuper1]

For California, the one who would need to move is the beneficiary (i.e., the student). He/she is the one who is subject to the California state income tax and surcharge on the Roth rollover amount.

[toddthebod]

For California, the one who would need to move is the beneficiary (i.e., the student). He/she is the one who is subject to the California state income tax and surcharge on the Roth rollover amount.

It depends on who gets the distribution. In the context of the Roth rollover, yes, it would be the beneficiary.

[bombcar]

You have to love California's attitude of tax first and ask questions later. There is absolutely nothing stopping you from moving your California 529 account to any state that will not impose the 2.5% surcharge. As California does not provide any sort of tax benefits for use of a 529, there's no incentive not to do this.

California has the advantage of being both very large in size and population AND all their population centers live far from the borders (except a border with another country).

If New York or Minnesota tries too hard, people just move across the state line.

[mystiq]

How can california tax on conversion when it didnt give us tax break when depositing into 529?

[rkhusky]

How can california tax on conversion when it didnt give us tax break when depositing into 529?

They can tax earnings upon withdrawal, just like a non-deductible IRA.

[anagram]

Does CA tax you if you have some funds left in the 529 and you withdraw it all? I think this is a non qualified withdrawal. I know you pay Federal tax on the gains in the 529 plus a 10% penalty.

[toddthebod]

How can california tax on conversion when it didnt give us tax break when depositing into 529?

California taxation on 529 plans is identical to the original federal taxation prior to the federal government adding additional categories of tax-exempt distributions (i.e., K-12 tuition, Roth rollovers).

[Gaston]

I had no idea. Thanks for posting this.

The law that allows a 529-to-Roth conversion was passed, I believe, in 2022, so it's still a relatively new mechanism. But there are restrictions. Here are a few:

- The 529 plan must have been in existence for at least 15 years.
- The money that you wish to convert to a Roth must have been in the 529 plan for at least 5 years.
- You can convert up to $35,000 maximum.
- The Roth must be in the name of the beneficiary of the 529 plan (not the person who put the money into the 529 plan).
- Etc.

Still a great deal for at least some people.

[toddthebod]

Does CA tax you if you have some funds left in the 529 and you withdraw it all? I think this is a non qualified withdrawal. I know you pay Federal tax on the gains in the 529 plus a 10% penalty.

If it's taxed and penalized federally, it's taxed and penalized in California.

[anagram]

Does CA tax you if you have some funds left in the 529 and you withdraw it all? I think this is a non qualified withdrawal. I know you pay Federal tax on the gains in the 529 plus a 10% penalty.

If it's taxed and penalized federally, it's taxed and penalized in California.

So another 10% penalty from CA? Do you have a reference for this? I have not been able to find one.

[toddthebod]

Does CA tax you if you have some funds left in the 529 and you withdraw it all? I think this is a non qualified withdrawal. I know you pay Federal tax on the gains in the 529 plus a 10% penalty.

If it's taxed and penalized federally, it's taxed and penalized in California.

So another 10% penalty from CA? Do you have a reference for this? I have not been able to find one.

The California penalty is 2.5%.

See the instructions for 3805P, part II: https://www.ftb.ca.gov/forms/2023/2023- ... tions.html

[winterfan]

I had no idea. Thanks for posting this.

The law that allows a 529-to-Roth conversion was passed, I believe, in 2022, so it's still a relatively new mechanism. But there are restrictions. Here are a few:

- The 529 plan must have been in existence for at least 15 years.
- The money that you wish to convert to a Roth must have been in the 529 plan for at least 5 years.
- You can convert up to $35,000 maximum.
- The Roth must be in the name of the beneficiary of the 529 plan (not the person who put the money into the 529 plan).
- Etc.

Still a great deal for at least some people.

Oh yeah, the 529 plan we have meets all the criteria to move money to a Roth. I didn't know about the state taxes though. It's not the end of the world, but I guess there's no free lunch.

[stuper1]

Also, the beneficiary must have earned income for the year that is at least as much as the Roth rollover amount. And the rollover amount counts toward the annual Roth contribution limit.

[jarjarM]

How can california tax on conversion when it didnt give us tax break when depositing into 529?

CA also didn't give a tax break on HSA contribution and yet it'll tax the interest/dividend/capital gain on funds within HSA so there's that too...

[anagram]

Does CA tax you if you have some funds left in the 529 and you withdraw it all? I think this is a non qualified withdrawal. I know you pay Federal tax on the gains in the 529 plus a 10% penalty.

If it's taxed and penalized federally, it's taxed and penalized in California.

So another 10% penalty from CA? Do you have a reference for this? I have not been able to find one.

The California penalty is 2.5%.

See the instructions for 3805P, part II: https://www.ftb.ca.gov/forms/2023/2023- ... tions.html

Thank you. Much appreciated.

[marcopolo]

How can california tax on conversion when it didnt give us tax break when depositing into 529?

CA also didn't give a tax break on HSA contribution and yet it'll tax the interest/dividend/capital gain on funds within HSA so there's that too...

Not that surprising.

They just treat them the same as a taxable account.
No tax break for putting money into them.
Taxes on any gains.

It's not like they are taxing the principal being withdrawn.

[jarjarM]

How can california tax on conversion when it didnt give us tax break when depositing into 529?

CA also didn't give a tax break on HSA contribution and yet it'll tax the interest/dividend/capital gain on funds within HSA so there's that too...

Not that surprising.

They just treat them the same as a taxable account.
No tax break for putting money into them.
Taxes on any gains.

It's not like they are taxing the principal being withdrawn.

Yeah I know, HSA doesn't exist in the eye of CA FTB. But they do treat qualified withdraw from 529 as tax free, but end up not following federal law on K-12 and Roth rollover provisions.

[Walkure]

States that make you pay back the deduction if you do a rollover: Illinois, Indiana, Iowa, Massachusetts, Michigan, Minnesota, Montana, New York, Utah and Vermont.

California taxes and then adds a 2.5% surcharge.

California I can understand the position, even though it seems punitive. But I just can’t figure out how the other states would functionally recapture a past tax deduction when the beneficiary doing the Roth contribution isn’t the original grantor (who isn’t necessarily even the account owner!)

What if dad opens a 529, grandma contributes and takes a tax deduction, little Susie goes to college, grandma dies, Susie graduates, has funds left over, rolls to a Roth. Should NYS recapture grandma’s tax deduction from Susie? From dad? What if Grandma’s income was so low she didn’t have any tax liability to deduct or she lived in Florida and never got a NY deduction in the first place? What if the 529 commingled contributions from dad and grandma, do you have to prorate the recapture by source? The whole thing seems so rife with complications that I just can’t see any possibility of a single state pulling it off successfully.

[secondcor521]

What if dad opens a 529, grandma contributes and takes a tax deduction, little Susie goes to college, grandma dies, Susie graduates, has funds left over, rolls to a Roth. Should NYS recapture grandma’s tax deduction from Susie? From dad? What if Grandma’s income was so low she didn’t have any tax liability to deduct or she lived in Florida and never got a NY deduction in the first place? What if the 529 commingled contributions from dad and grandma, do you have to prorate the recapture by source? The whole thing seems so rife with complications that I just can’t see any possibility of a single state pulling it off successfully.

My state has a recapture tax for nonqualified distributions. It does allow tax-free 529->Roth rollovers though.

In the case of the recapture tax for nonqualified distributions, I think it's done on the honor system. When I asked my state tax board about it they didn't really even understand the law, which is about two sentences long and is pretty short on specifics. I suspect very few taxpayers know about the law and even fewer comply with it.

I suspect it is similar in other states. It costs money and takes effort to create the systems necessary to enforce the laws, and most people comply anyway.

Everyone should, of course, comply with all tax laws at all times. I just wish sometimes that it were more clear and straightforward to comply.

[toddthebod]

States that make you pay back the deduction if you do a rollover: Illinois, Indiana, Iowa, Massachusetts, Michigan, Minnesota, Montana, New York, Utah and Vermont.

California taxes and then adds a 2.5% surcharge.

California I can understand the position, even though it seems punitive. But I just can’t figure out how the other states would functionally recapture a past tax deduction when the beneficiary doing the Roth contribution isn’t the original grantor (who isn’t necessarily even the account owner!)

What if dad opens a 529, grandma contributes and takes a tax deduction, little Susie goes to college, grandma dies, Susie graduates, has funds left over, rolls to a Roth. Should NYS recapture grandma’s tax deduction from Susie? From dad? What if Grandma’s income was so low she didn’t have any tax liability to deduct or she lived in Florida and never got a NY deduction in the first place? What if the 529 commingled contributions from dad and grandma, do you have to prorate the recapture by source? The whole thing seems so rife with complications that I just can’t see any possibility of a single state pulling it off successfully.

They've considered that:

As new Account Owner: I acknowledge and agree that I am responsible for reporting as gross income on my New York State income
tax return the portion of any withdrawals I take from the Account that are subject to recapture of any previous New York State tax
deductions taken for contributions made to the Account by the current Account Owner. Recapture applies in the case of certain
withdrawals as determined by New York law and the State of New York Department of Taxation and Finance, and includes non-
qualified withdrawals and rollovers to a non-New York Program 529 plan. I understand and agree that I may be required to file a
New York State income tax return to report such income even if I’m not a New York State resident.

https://www.ny529advisor.com/content/da ... OWNCHG.pdf

[Ccthealias]

For states that are not playing nice with the 529->Roth rollovers, it may be a viable strategy to roll the 529 plan over the "bad" state to a 529 in a "good" state and then do the 529->Roth rollover from there.

I thought it would be based on where you live (and file income tax) not which state ‘s 529 plan you hold your money

[cowbman]

You have to love California's attitude of tax first and ask questions later. There is absolutely nothing stopping you from moving your California 529 account to any state that will not impose the 2.5% surcharge. As California does not provide any sort of tax benefits for use of a 529, there's no incentive not to do this.

It's not just moving CA 529 plan, one would have to move physically as well

Fair enough. I'm looking at this from a perspective of someone using the ScholarShare 529 but not living in California.

[cowbman]

You have to love California's attitude of tax first and ask questions later. There is absolutely nothing stopping you from moving your California 529 account to any state that will not impose the 2.5% surcharge. As California does not provide any sort of tax benefits for use of a 529, there's no incentive not to do this.

California has the advantage of being both very large in size and population AND all their population centers live far from the borders (except a border with another country).

If New York or Minnesota tries too hard, people just move across the state line.

Hasn't that been occurring anyway though?

[toddthebod]

You have to love California's attitude of tax first and ask questions later. There is absolutely nothing stopping you from moving your California 529 account to any state that will not impose the 2.5% surcharge. As California does not provide any sort of tax benefits for use of a 529, there's no incentive not to do this.

It's not just moving CA 529 plan, one would have to move physically as well

Fair enough. I'm looking at this from a perspective of someone using the ScholarShare 529 but not living in California.

One has nothing to do with the other. A Nevadan who uses the California ScholarShare 529 and takes a non-qualified distribution is not taxed by the state of California.

[bongo]

States that make you pay back the deduction if you do a rollover: Illinois, Indiana, Iowa, Massachusetts, Michigan, Minnesota, Montana, New York, Utah and Vermont.

California taxes and then adds a 2.5% surcharge.

Not sure why the article was worded that way ("California stands alone"). I think all the states in the list would tax you on the earnings since they consider it a non-qualified withdrawal. CA does have the addl 2.5% penalty though.

[bongo]

Fair enough. I'm looking at this from a perspective of someone using the ScholarShare 529 but not living in California.

One has nothing to do with the other. A Nevadan who uses the California ScholarShare 529 and takes a non-qualified distribution is not taxed by the state of California.

This is true, but that's why I was shocked at what you found in the NY plan above "I understand and agree that I may be required to file a New York State income tax return to report such income even if I’m not a New York State resident." I didn't think a plan could affect a non-resident this way.

[toddthebod]

Fair enough. I'm looking at this from a perspective of someone using the ScholarShare 529 but not living in California.

One has nothing to do with the other. A Nevadan who uses the California ScholarShare 529 and takes a non-qualified distribution is not taxed by the state of California.

This is true, but that's why I was shocked at what you found in the NY plan above "I understand and agree that I may be required to file a New York State income tax return to report such income even if I’m not a New York State resident." I didn't think a plan could affect a non-resident this way.

That's a different story. There are several states that only give tax deductions for contributions to their specific plan. But again, only a New York taxpayer gets a tax deduction for contributions to the New York plan. And out of state taxpayer using the New York plan would neither receive a tax deduction nor be penalized by the state of New York for a non-qualified withdrawal.

[bongo]

Fair enough. I'm looking at this from a perspective of someone using the ScholarShare 529 but not living in California.

One has nothing to do with the other. A Nevadan who uses the California ScholarShare 529 and takes a non-qualified distribution is not taxed by the state of California.

This is true, but that's why I was shocked at what you found in the NY plan above "I understand and agree that I may be required to file a New York State income tax return to report such income even if I’m not a New York State resident." I didn't think a plan could affect a non-resident this way.

That's a different story. There are several states that only give tax deductions for contributions to their specific plan. But again, only a New York taxpayer gets a tax deduction for contributions to the New York plan. And out of state taxpayer using the New York plan would neither receive a tax deduction nor be penalized by the state of New York for a non-qualified withdrawal.

Your last sentence seems to be what they are addressing. If you take over a NY plan that someone else got a deduction on, suddenly you're on the hook for any clawbacks (even if you are out of state).

I'm really surprised they can get away with saying this though. It'd be kinda like moving to a new state and making a non-qualified HSA withdrawal, and then having your old state claim their state tax deduction back. Maybe someone will eventually challenge this and see if it holds up.

[toddthebod]

I'm really surprised they can get away with saying this though. It'd be kinda like moving to a new state and making a non-qualified HSA withdrawal, and then having your old state claim their state tax deduction back. Maybe someone will eventually challenge this and see if it holds up.

Rich people don't use 529s, so I wouldn't hold my breath.

[marcopolo]

I'm really surprised they can get away with saying this though. It'd be kinda like moving to a new state and making a non-qualified HSA withdrawal, and then having your old state claim their state tax deduction back. Maybe someone will eventually challenge this and see if it holds up.

Rich people don't use 529s, so I wouldn't hold my breath.

Do you have a source for that?

I guess it depends on your definition of "rich".
But, 529 plans are pretty much designed to help rich people the most.

[toddthebod]

I'm really surprised they can get away with saying this though. It'd be kinda like moving to a new state and making a non-qualified HSA withdrawal, and then having your old state claim their state tax deduction back. Maybe someone will eventually challenge this and see if it holds up.

Rich people don't use 529s, so I wouldn't hold my breath.

Do you have a source for that?

I guess it depends on your definition of "rich".
But, 529 plans are pretty much designed to help rich people the most.

Rich people pay tuition directly because it does not count as a gift.

[Walkure]

States that make you pay back the deduction if you do a rollover: Illinois, Indiana, Iowa, Massachusetts, Michigan, Minnesota, Montana, New York, Utah and Vermont.

California taxes and then adds a 2.5% surcharge.

California I can understand the position, even though it seems punitive. But I just can’t figure out how the other states would functionally recapture a past tax deduction when the beneficiary doing the Roth contribution isn’t the original grantor (who isn’t necessarily even the account owner!)

What if dad opens a 529, grandma contributes and takes a tax deduction, little Susie goes to college, grandma dies, Susie graduates, has funds left over, rolls to a Roth. Should NYS recapture grandma’s tax deduction from Susie? From dad? What if Grandma’s income was so low she didn’t have any tax liability to deduct or she lived in Florida and never got a NY deduction in the first place? What if the 529 commingled contributions from dad and grandma, do you have to prorate the recapture by source? The whole thing seems so rife with complications that I just can’t see any possibility of a single state pulling it off successfully.

They've considered that:

As new Account Owner: I acknowledge and agree that I am responsible for reporting as gross income on my New York State income
tax return the portion of any withdrawals I take from the Account that are subject to recapture of any previous New York State tax
deductions taken for contributions made to the Account by the current Account Owner. Recapture applies in the case of certain
withdrawals as determined by New York law and the State of New York Department of Taxation and Finance, and includes non-
qualified withdrawals and rollovers to a non-New York Program 529 plan. I understand and agree that I may be required to file a
New York State income tax return to report such income even if I’m not a New York State resident.

https://www.ny529advisor.com/content/da ... OWNCHG.pdf

Ah, so there’s a restriction on the front end - only account owners get a deduction in the first place in New York. In most states, you can contribute to someone else’s plan and take a deduction.
Secondarily, there seems to be a semantic distinction being made. Federally, the rollover is being made by the beneficiary, but for New York purposes all non-qualified withdrawals are treated as if they are made by the account owner, so that is who reports it on their return.

[cowbman]

You have to love California's attitude of tax first and ask questions later. There is absolutely nothing stopping you from moving your California 529 account to any state that will not impose the 2.5% surcharge. As California does not provide any sort of tax benefits for use of a 529, there's no incentive not to do this.

It's not just moving CA 529 plan, one would have to move physically as well

Fair enough. I'm looking at this from a perspective of someone using the ScholarShare 529 but not living in California.

One has nothing to do with the other. A Nevadan who uses the California ScholarShare 529 and takes a non-qualified distribution is not taxed by the state of California.

It sounded like you would have to pay the 2.5% surcharge anyway even if you are a non-California resident.