Status Board: State Income Tax Treatment on 529 Distributions to Roth IRAs

On December 20, 2022, Senate Appropriations Committee released HR 2617 which included provisions for SECURE 2.0 Act of 2022 (Setting Every Community Up for Retirement Enhancement). Subsequently, the federal legislation passed. As a result and effective 2024, certain types of qualified transfers from 529s to Roth IRAs will be allowed from a federal income tax perspective, and please review section 126 on Page 2161 of HR 2617 for the specific verbiage on those qualifying provisions. In the interim, meeting those qualifying provisions allows that type of distribution (also referenced as a “special rollover” and also referenced as a “transfer”) to get categorized as a qualified expense from a U.S. federal income tax perspective. In short summary, the provision allows for a 529 accountowner to execute a trustee-to-trustee transfer from a 529 directly to a Roth IRA in the 529 beneficiary’s name without paying Federal income tax or an additional 10% penalty on the amount included in income if the following requirements are met:
— 529 account must have existed for at least 15 years
— 529 account assets getting transferred must have been in the account for at least 5 years
— 529 account assets rollover to a Roth IRA owned by and in the name of the 529 account beneficiary
— Annual Limitation: Amount capped by annual Roth IRA limit; For example, 2024 maximum contribution limit is $7,000 and this is the total cumulative amount inclusive of both 529 to Roth IRA rollover and regular Roth IRA contributions
— Lifetime Limitation per Beneficiary: $35,000
— Effective: 2024
Meeting these requirements generally allows the transaction to meet the standards needed to classify the transaction as a qualified expense from a federal income tax perspective, meaning there is not a federal income tax or penalty on this type of transaction.

Shifting from a federal income tax perspective to a state income tax perspective, state tax law treatment of a 529 distribution to a Roth IRA may differ from the federal tax treatment. Please note that state tax treatment of 529 distributions to Roth IRAs is determined by the state where one files state income tax. Building upon this, the status board below categorizes how each state treats the transaction from a potential state income tax recapture perspective for those that file state income tax with that state. States that categorize the transaction as a “Qualified Expense” conform to federal income tax on this type of transaction, which means that previously taken state income tax credits or deductions will not need to be paid back (also termed as a state income tax recapture) if this type of transaction occurs. States that categorize the transaction as “Not a Qualified Expense” in the list below mean that those that file state income tax with those states (such as residents and/or employees that pay state income tax to those states) may need to pay back a prior state income tax credit or deduction previously taken. Again, state tax treatment of a rollover from a 529 plan into a Roth IRA is determined by the state where one files state income tax. Furthermore, taxpayers in certain states receive a state tax deduction or credit for contributions into any 529 plan offered by any state (also termed tax parity), while others only receive if they contribute to the 529 plan offered by the state where they file state income tax. Given the level of complexity and level of investor specific information involved, one should consult with a qualified tax professional before rolling over funds from their 529 plan to contribute to a Roth IRA. Lastly, those listed as “Not clear or decision pending” have not publicly announced this type of transaction as qualified or not qualified from a state income tax recapture perspective. As such, please bookmark this page and revisit as the status board will be updated as more information becomes available. To help keep track of when the last update took place, the “last updated” date will be reported below the list of states. Also, please contact the editor of the 529 Dash e-newsletter and 529 Insider website with any new sources and/or suggested updates to the list. In short and given the level of complexity on this topic and especially as it relates to potential state income tax implications, one should consult with a qualified tax professional before rolling over funds from their 529 plan to contribute to a Roth IRA.

The table below is based on public information from legislation, public announcements, 529 plan providers, state agencies and plan disclosure statements and amendments that we believe to be correct in general to the best of our knowledge, but please consultant a qualified tax specialist regarding your or your client’s specific situation in addition to reading the specific legislative language, 529 plan disclosures and IRS publications for more details.

529 Distributions to Roth IRAs a Qualified Expense for State Income Tax Purposes: 31 states
— Alabama (Source: 1)
— Alaska (Note: No state income tax.)
— Arizona: Per plan disclosure supplement number 5 
— Delaware
— Florida (Note: No state income tax.)
— Georgia
— Hawaii (Source: Plan disclosure supplement dated January 2024)
— Idaho
— Kansas (Source: Per KSA 75-642 and 75-643)
— Kentucky 
— Maryland 
— Maine
— Nebraska (Source: 85-1802 For purposes of sections 85-1801 to 85-1817)
— New Mexico (Source: 1)
— Nevada (Note: No state income tax.)
— New Hampshire (Note: No state income tax.)
— North Carolina
— North Dakota (Source: Plan disclosure dated January 2024)
— Ohio (Source: 1)
— Oregon
— Pennsylvania
— Rhode Island
— South Carolina
— South Dakota (Note: No state income tax.)
— Tennessee (Note: No state income tax.)
— Texas (Note: No state income tax.)
— Virginia (Source: 1)
— Washington (Note: No state income tax.)
— West Virginia: Per plan disclosure supplement dated 12/12/2023
— Wisconsin (Source: Edvest 529 plan disclosure supplement 1 dated January 1, 2024)
— Wyoming (Note: No state income tax.)

529 Distributions to Roth IRAs are NOT a Qualified Expense from a State Income Tax Recapture Perspective for Residents in and Taxpayers to those states: 11 states
[Please Note: In this scenario, residents and/or workers in these states filing state income tax with these states may be subject to state income tax recapture for previously taken state tax deductions and/or credits for 529 contributions that are subsequently transferred to a Roth IRA. State tax treatment of 529 distributions to a Roth IRA is determined by the state where you file state income tax. For further information, please consult with your qualified tax specialist and plan disclosure statement.]
— California (Source: ScholarShare plan disclosure statement supplement No. 1 dated January 1, 2024; pages 5-6 read, “Currently for California taxpayers, a rollover from a 529 plan account to a Roth IRA will be treated as a non-qualified withdrawal and the earnings portion of the withdrawal will be subject to California state income tax, including the additional 2.5% California tax.”
— Illinois (Source: 1)
— Indiana (Source: 1)
— Iowa (Source: plan disclosure supplement)
— Massachusetts 
— Michigan (Source: MESP plan disclosure supplement 1 dated January 1, 2024)
— Minnesota (Note: Potential state income tax recapture for previously deducted or credited contribution amounts;  Source: Minnesota College Savings Plan disclosure agreement No. 4 dated January 1, 2024) 
— Montana (Source: Achieve Montana plan disclosure supplement dated January 2024)
— New York (Source 1: New York’s 529 Advisor-Guided College Savings Program Plan Disclosure Supplement dated January 2024; Source 2: NY’s 529 College Savings Program plan disclosure supplement dated January 2024 – NYSUPSAQ1 012024)
— Utah
— Vermont

Not Clear or Decision Pending: 8 States plus D.C.
— Arkansas: State legislators will convene for a regular session in 2025, and will have a vote called to determine its position at that time
— Colorado: Decision Pending
— Connecticut: Unclear 
— District of Columbia: Decision Pending (Source: DC College Savings Plan disclosure supplement dated January 2024 – 529ADV-PRO-SUP-5)
— Louisiana: Unclear
— Mississippi
— Missouri: Decision Pending (Source: Plan disclosure supplement – ES-MO-SUP-012024)
— New Jersey: Decision Pending; state requires a legislative change to approve but this has not occurred 
— Oklahoma: Decision Pending; state requires a legislative change to approve but this has not occurred 

Last Updated: March 28, 2024

Editor’s Final Note: One should consult with a qualified tax professional before making a 529 distribution to a Roth IRA. Also, we suggest that you read IRS Publications relating to this transaction such as IRS Publication 970, contact your 529 plan provider, review your 529 plan provider’s website and read your 529 plan’s disclosure statements for announcements related to this update.

Thank you for your feedback and suggestion to write this status board, and we will continue to track, provide links to sources and write about these types of legislative updates going forward. In the meantime, have the education financial planning discussion with your clients today.