Due to the effects of COVID-19, many colleges and universities have issued refunds for tuition and room and board. If the tuition and room and board being refunded was paid from 529 funds, under IRC Section 529(c)(3)(D), a taxpayer has 60 days from the date of the refund to put the amount of the refund back into the same beneficiary’s 529 account.
Furthermore, under recent guidance from the Internal Revenue Service (IRS), if that 60-day period ends on or after April 1, 2020, and before July 15, 2020, then the recontribution can be made any time before the later of July 15, 2020, or 60 days after the refund date.
Not all states conform to the 60-day recontribution rule of IRC 529(c)(3)(D), and not all states are going to conform to the additional time period allowed by Notice 2020-23. This means there could be tax consequences at the state level.
Also note that many 529 plans have a special form that should be used when contributing funds back into a 529 account.
If the refund is not put back into the 529 account on a timely basis or not put back into the 529 account at all, to the extent the beneficiary doesn’t have qualified higher education expenses (QHEEs) to match the original 529 withdrawal, the refund amount will be treated as a nonqualified distribution. This means at the federal level, there will be tax due on the earnings portion of the refund as well as a 10% penalty on that amount. There could also be tax consequences at the state level. If the refund is put back into the 529 account but not on a timely basis, it could also be treated as an additional contribution to the 529 account.
As an alternative to putting the refund back into the 529 account, the refund could be used for QHEEs for the same calendar year. So if the refund represents a 2020 distribution, it could be used to pay another QHEE in 2020, such as tuition and housing for the 2020 fall semester.
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Updated for tax year 2020
Updated for tax year 2019