A. For grandparents who are looking for tax-advantaged ways to help pay for their grandkids' college costs, Roth IRA and 529 have a lot in common - both are after-tax contributions, and both accounts grow tax free. However, they have many differences, some favor Roth IRA and some favor 529:
Roth IRA wins here.
With Roth IRA, you have a lot more flexibility - you can withdraw your contribution tax free whenever you want, and you can take out earnings free of tax and penalties once you turn age 59.5 and as long as you have had a Roth IRA for at least 5 years.
With 529, you will pay income tax and a 10% penalty on any earnings when you withdraw the money for non-educational purposes.
529 wins here.
With Roth IRA, your annual limit is $6,500 a year if you are over age 50, and you need to have earned income to contribute. Also, you have to be within the income threshold.
For 529, you have no income limit and you don't have to work in order to contribute.
529 wins here.
With Roth IRA, there is no tax break for the contribution made to Roth IRA account.
With 529, many states offer tax deductions or credits for at least part of a 529 plan contribution. Also, deposits of up to $14,000 a year ($28,000 for a couple) for each grandchild can qualify for the annual gift-tax exclusion. If you want to reduce the size of your estate, you can deposit 5 years' worth of contributions in a single year without filing a gift-tax return.
Neither Roth IRA nor 529 held by a grandparent is reported as an asset on the student's application for federal financial aid.
But 529 distributions are reported on the following year's application as student income, reducing financial eligibility the next year.
A Roth IRA distribution to pay for college cost will also be considered student income.