COVID-19 & CARES Act Financial Planning Series: #5 "Retirement Plan Distributions"

For those who are struggling financially as a result of the COVID-19 global pandemic, the CARES Act attempts to provide relief in a myriad of ways. We’ve already addressed a few of the key provisions of this legislation in prior blog posts. This post is about the new provisions for retirement account distributions.

For reference, typically when the owner of a 401(k) or traditional IRA t akes a withdrawal before age 59 1/2, that withdrawal would be subject to income taxes and a 10% penalty on the amount. However, under the CARES Act, that 10% penalty is waived on 2020 distributions up to $100,000 (in aggregate over possibly multiple retirement accounts / per investor) for account owners whose finances have been negatively impacted by the Coronavirus. Negative financial impacts may include lay off, furlough, reduction in hours, closure of one’s place of business, lack of available childcare necessary to work, COVID-19 diagnosis of oneself, spouse, or dependent, etc.

The account owner has the ability to evenly spread out the income taxes due on the 2020 distribution over three years (2020, 2021, and 2022) or claim it all as income this year. While normally it is beneficial to spread out the taxes, if income is expected to return to normal in subsequent years, it may more advantageous to claim it all in 2020. Consult with your CPA outside of tax season to do some proactive tax planning.

This type of distribution can also be paid back by the account owner over the following three (3) years from date of receipt. These repayments, which are considered rollovers, can be made via a lump sum or multiple installments. And, if the distribution was claimed as income on a tax return but then paid back within the 3-year window, the tax return can be amended to refund taxes attributable to that amount.

It should be noted that not all employer retirement plans are making it easy for their participants to take this type of distribution. In recent weeks there have been multiple articles in the press about employers who have chosen not to adopt these plan provisions or are still in the process of deciding.

There are also new provisions for loans from employer-sponsored retirement plans. Typically, if a 401(k) owner chose to borrow money from the account, only 50% of the vested account balance up to $50,000 could be loaned. Under the new regulations, an account owner can borrow 100% of the vested account balance up to $100,000.

The decision to take a retirement plan distribution or loan should not be made lightly. Learn and follow all the rules, and most importantly, take only what you truly need.

Lastly, it is important to mention the hiatus granted for required minimum distributions (RMDs) in 2020. The RMD waiver applies to traditional IRAs, SEP IRAs, SIMPLE IRAs, 401ks, 403bs, and 457bs. It applies to both account owners as well as beneficiaries who have inherited these accounts. For account owners (not inheritors) who took an RMD after February 1, 2020 but don’t need the money, there is the option to roll those funds back into the IRA or employer-sponsored retirement plan by July 15, 2020, as long as the plan permits.

Additional resources:

IMPACTfolio’s COVID-19 & CARES Act Financial Planning Series

#1 – Where’s My Check?

#2 – Taking A Break From Student Loan Payments

#3 – Small Business Relief

#4 – Health Insurance

For more detailed information on The CARES Act, we recommend that you read this excellent article.

Rebecca Kennedy, CFP®, has been in the financial services industry since 1999. She is a co-founder of IMPACTfolio, a wealth management firm that specializes in IMPACT investing and holistic financial planning for one flat-fee.