CARES Act Offers More Tax Flexibility for Retirement Plan Participantsby
These unprecedented times have called for financial help in many forms, the CARES Act being one. This article will explore what tax benefits retirement plan holders or investors can expect from the Act.
Thanks to the CARES Act, participants in qualified plans, like 401(k) and 403(b) plans, and IRAs have more leeway in 2020 than they had before—perhaps ever. In this article we will cover the highlights of several key provisions in the new law that your clients who hold retirement plans should be aware of.
COVID-19 Related Distributions
Typically, distributions from a qualified plan or IRA made before age 59½ trigger a tax penalty, in addition to regular tax, unless a special tax code exception applies. The CARES Act carves out a new exception for distributions in 2020 relating to the spread of the coronavirus.
The exception applies to payouts of up to $100,000 for an individual (or his or her spouse) who is diagnosed with COVID-19 or has experienced adverse financial consequences as a result of being laid off, having work hours reduced or being quarantined or furloughed due to COVID-19.
Although COVID-19 related distributions are still taxable, an individual can pay off the resulting tax liability over three years. Alternatively, tax may be avoided completely by redepositing the same amount in a qualified plan or IRA within the three-year window. The usual time period for rollover is 60 days from the date of the distribution.
Required Minimum Distributions
Currently, participants in qualified plans and IRAs must begin taking required minimum distributions (RMDs) in the year after the year in which they reach age 72. This start date was pushed back from age 70½, beginning in 2020, by the SECURE Act passed earlier this year.
RMDs are based on life expectancy and account balance on December 31 of the prior year. This would have resulted in artificially high distributions for many retirees who have sustained investment losses in retirement accounts this year.
Accordingly, the CARES Act suspends the rules for RMDs for 2020, including those for inherited accounts. It also permits someone who turned age 70½ in 2019 to avoid the requirement for 2020.
If someone receives or has received an RMD, he or she may roll it over into another plan or IRA within 60 days without any tax liability. In addition, RMDs made between February 1 and May 15 can still be rolled over by July 15. The IRS is expected to issue guidance soon regarding distributions made in January and whether it will waive the usual restriction allowing only one IRA rollover a year.
Retirement Plan Loans
The CARES Act liberalizes the rules for hardship loans from certain qualified plans, like 401(k)s, made between March 27, 2020 and September 23, 2020. Specifically, the new law includes two key provisions:
1. It doubles the maximum loan amount from $50,000 to $100,000 and allows participants to take 100 percent of their vested benefit as a loan. The usual limit is 50 percent of the participant’s vested balance.
2. It extends the due date for loan repayments due in 2020 by one year
The new law also allows retirement plans to adopt these provisions immediately even if hardship distributions or loans aren’t currently permitted as long as the plan is amended by 2022.
Technically, the CARES Act didn’t extend the deadline for filing 2019 tax returns and paying tax from April to July 15. The IRS did that when it announced the extension in Notice 2020-18. But it was only a matter of time based on all the related provisions in the new law.
At the same time, Notice 2020-18 extended the due date for making IRA contributions for the 2019 tax year. Individual taxpayers now have until July 15 to make a contribution to a traditional IRA or Roth IRA (or both). The combined total for contributions can’t exceed the lesser of earned income or $6,000 ($7,000 if you’re age 50 or older).
These changes may have a significant impact on retirement planning in 2020. Reach out now to clients who may be affected by the CARES Act.
Next week we will cover how the Act impacts charitable donations.
Ken Berry, Esq., is a nationally known writer and editor specializing in tax, financial, and legal matters. During his long career, he has served as managing editor of a publisher of content-based marketing tools and vice president of an online continuing education company. As a freelance writer, Ken has authored thousands of articles for a...