Here's What Happens When You Have Too Much Money in a 529 Plan

Given the ever-growing cost of college, many parents are eager to do what they can to save in advance so they're able to cover the bulk of their children's expenses. If that's a goal of yours, you may be inclined to sock money away in a 529 plan.

A 529 plan offers the benefit of tax-free investment gains, whereas with a regular brokerage account, investment gains are subject to taxes. You can also take tax-free 529 plan withdrawals to pay for education. And it doesn't just have to be college. You can tap a 529 plan without penalty to cover the cost of private school for, say, elementary or high school.

But what if you land in the fortunate position of having too much money in your 529 plan? It may be that your child has opted for a less expensive college, so now you have a remaining balance you don't need for their education.

When you have extra money in a 529 plan, you need to be careful to avoid penalties. But there are options for putting that money to good use.

When penalties apply

There's no tax break to be had on the money you put into a 529 plan. Because of this, if you take a 529 plan withdrawal for non-education purposes, you'll only be penalized on the gains portion of your account, not your principal contributions.

Let's say you contribute $40,000 to a 529 plan and your money grows to $60,000 by the time your child is ready for college. Let's then say your child opts out of college completely, leaving you with $60,000 you're not sure what to do with. If you withdraw all of that money for expenses not related to education, you'll only be taxed and penalized on $20,000, which represents your gains portion.

Alternatives for your extra money

One good thing about 529 plans is that they allow you to change your beneficiary without penalty. So let's say you have a daughter who's no longer interested in college, but you've decided that you want to go back to school to get a master's degree. You can designate yourself as the beneficiary of that plan and use the funds to pay for your own schooling.

You should also know that starting in 2024, leftover funds in a 529 plan can be rolled into a Roth IRA without penalty, provided you're not moving over more than $35,000 per beneficiary. This means that instead of having to spend that money randomly, it can be saved and reserved for retirement instead.

Many people struggle to fund a 529 plan enough to cover the cost of college or other educational expenses. So if you have too much money in your 529 plan, consider yourself lucky to a large degree. However, you don't want those funds to go to waste, and it's best to avoid withdrawal penalties if possible. So if you end up with a lingering 529 plan balance and you're not sure what to do with it, read up on your options or consult an accountant or financial advisor for further guidance.