529 to Roth/12-Month Rule

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529 to Roth/12-Month Rule

Post by boglefan_OR »

I’ve searched and haven’t found an answer to this particular scenario:

Trying to figure out how the 12-month rule applies to the 529 to Roth with a Coverdell ESA in the mix.

My 2 kids both have a 529 plan and Coverdell ESA. Child 1 is about done with college and no longer needing the money. In January 2024 we “rolled over” the remaining full amount of child 1 Coverdell ESA to child 2 Coverdell ESA. Child 2 still has a couple years in college and will use the remaining funds in this account. In the phone conversations during the rollover, they specified it was a rollover and not just changing the beneficiary.

We now want to rollover 529 plan funds for this year 2024 from child 1 into their Roth Ira to start emptying out that account (they meet all the requirements to do this). Will this 529/Roth rollover impact the 12-month rule for the Coverdell ESA rollover we did this year for them? Is the 12-month rule separate for 529 plans and Coverdell ESAs or are they considered the same type of education savings accounts? Does the 12-month rule apply to Child 1 for rolling over money or child 2 for receiving it in their account, or both?

Thank you for advice on this.
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David Jay
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Location: Michigan

Re: 529 to Roth/12-Month Rule

Post by David Jay »

The 12-calendar-month rule only applies if one takes possession of the money, I don't know if it applies to 529s or not.

If the money is transferred from custodian to custodian there is no limit. This is commonly transferred with a check made out to: "[Brokerage Name], FBO [boglefan_OR]. This is a check that you cannot cash by yourself so it is not subject to the rule.

For further understanding, the rule is because of abuse: People making continuous back-to-back-to-back 60-day custodian transfers so they could use the cash for various other activities.
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Alan S.
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Location: Prescott, AZ

Re: 529 to Roth/12-Month Rule

Post by Alan S. »

A 529 to Roth IRA "rollover" can only be done by a direct transfer from the 529. Eligibility and amount of the transfer will have to be determined by the 529 custodian. The only tax document that should be issued is a 5498 by the Roth custodian showing the transfer as a regular Roth IRA contribution. As such the 529 beneficiary must have enough earned income to support the Roth contribution.

Then there is the issue of Roth IRA basis tracking for this beneficiary. It's confusing that even though this transfer will be reported as if it were a regular Roth IRA contribution, it will not all be treated as regular Roth IRA basis. Roth IRA regular contribution basis is limited to the portion of the 529 transfer that is allocated to 529 contributions. The portion that was 529 gains will be treated as Roth IRA gains, so this will be yet another exception to simply tracking regular Roth IRA basis from the 5498 form.

Any transfer between these accounts is not reported as a distribution and therefore not subject to the one rollover limit in 12 months.

Complete IRS reporting guidance on this provision (Sec 126 of Secure 2.0) is not yet released, yet some custodians are proceeding anyway. This could result in problems of undetermined variety.
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