I agree with Critter-3, these bonds are not eligible for a tax free/tax deferred rollover to a 529 plan because of the ownership rules*.
Since the bonds are now in the kids name, they will report the interest on their tax return. They will need to file if their income is more than $1100. If their only income is from interest (including savings bonds) and dividends, Alaska PFD or capital gains distributions shown on a 1099-DIV, there is a provision for entering it on your return, using form 8814. Enter at Less common income / Child's income.
*Why (what's the technicality)? There are several. The child (the current bond owner) did not purchase the bond before age 24. The child is/was not the dependent of the grandparent, so even during the grandparent's lifetime, the bonds could not be cashed (tax free) to pay for the child's education or fund his 529 plan. A 529 contribution is normally a qualified higher education expense, for savings bond proceeds. But, in this case, it's the bonds that don't meet the rules.
