On March 27, 2020 the President signed the Coronavirus, Aid, Relief, and Economic Security (CARES) Act into law. This legislation provides relief for those suffering financially and physically from the COVID-19 pandemic. With respect to retirement plans, the CARES Act provides targeted relief for plan participants who need access to their retirement plan funds through loans or distributions, waives required minimum distributions for the 2020 calendar year for most plans, and provides funding relief for employers who sponsor single-employer defined benefit plans.
This is the first in a series to address questions most frequently being asked by 401(k) plan sponsors related to the CARES Act, specifically related to Coronavirus-related distributions under the Act.
The Act allows eligible retirement plans to make “coronavirus-related distributions” to “qualified individuals”. Such distributions are exempt from the additional 10% income tax for early withdrawals, and any plan distribution, up to $100,000, can qualify. Additionally, the new law allows participants to pay the applicable income tax ratably over a three-year period, and also provides participants the opportunity to defer taxation by “repaying” the distribution to a qualified plan or IRA during the three-year period immediately following the distribution.
What plans are “eligible retirement plans”? Eligible retirement plans include 401(k) and other qualified plans, 403(b) plans and governmental 457(b) plans. Individual Retirement Accounts, including SIMPLE IRAs and SEPS, are also considered eligible retirement plans for this purpose.
Who are “qualified individuals”? Qualified individuals are defined as any individual:
- who has been diagnosed with COVID-19, or whose spouse or dependent has been diagnosed
- who has experienced adverse financial consequences as a result of being quarantined, furloughed, laid off, or having their hours reduced as a result of COVID-19
- who is unable to work due to lack of child care resulting from COVID-19
- who owns or operates a business that is completely or partially closed as a result of COVID-19
- other factors as determined by the Secretary of Treasury
Are plans required to permit coronavirus-related distributions? No. This is an optional provision, not a required one.
Does a plan need to be amended before it can permit coronavirus-related distributions? No. The provision can be implemented immediately. The plan must adopt a conforming amendment no later than the last day of the plan year beginning after December 31, 2021 (December 31, 2022 for calendar year plans). Note that this deadline could be extended by the IRS.
Is this a new type of hardship distribution? No. Rather, a “coronavirus-related distribution” is defined as any distribution made on or after January 1, 2020 through December 31, 2020 to a qualified individual. This means that any distribution could qualify, even if it was made before the law was enacted and could include hardship distributions, termination distributions, in-service distributions made upon attainment of age 59 ½, etc. A plan is permitted to allow coronavirus-related distributions to qualified individuals even if they would not otherwise be eligible for a distribution under the terms of the plan document.
What 401(k) plan accounts are available for coronavirus-related distributions? The CARES Act provides a waiver of most of the normal distribution restrictions. This means that coronavirus-related distributions can be made from any of the following accounts in a 401(k) plan:
- Elective deferral accounts (including 401(k) and Roth accounts)
- Safe harbor contribution accounts
- Employer profit sharing and matching contribution accounts
- Rollover contribution accounts
- Voluntary after-tax contribution accounts
- QNEC and QMAC accounts
Note: The CARES Act did not waive the distribution restrictions applicable to pension plan accounts. As a result, if a 401(k) plan has pension plan account balances (i.e. merged or transferred money purchase pension plan accounts), those accounts would not be eligible for a coronavirus-related distribution unless the participant has terminated or attained age 59 ½.
Can terminated participants receive coronavirus-related distributions? Yes. Provided they are a qualified individual.
Does a participant have to provide proof of their need? No. But they do have to provide certification that they meet the requirements to receive a coronavirus-related distribution. The key here is whether the individual is a qualified individual; it is not dependent on a specific “need” like hardship distributions. Under the CARES Act, the plan sponsor can rely on the participant’s certification that he or she is a qualified individual to make such a distribution.
Is there a limit on coronavirus-related distributions? Yes. From a plan perspective, coronavirus-related distributions cannot exceed $100,000, considering all plans maintained by the employer (including controlled or affiliated service group members) on an aggregated basis.
On an individual basis, coronavirus-related distributions are also limited to $100,000, after considering all distributions made from eligible retirement plans. This means that if a participant takes a $100,000 distribution from their employer’s qualified plan and also takes a distribution from their IRA, any amounts in excess of $100,000 would be subject to the 10% additional excise tax on early withdrawals (if they would not otherwise be exempt, e.g. they have attained age 59 ½). Additionally, the amounts in excess of $100,000 would be taxable in 2020 and could not be repaid to defer taxation.
Is there a window for making coronavirus-related distributions? Yes. Only distributions made between January 1, 2020 and December 31, 2020 can qualify.
Are coronavirus-related distributions subject to mandatory 20% federal withholding? No. For this purpose, coronavirus-related distributions are not considered to be eligible rollover distributions. As such, they are not subject to mandatory 20% federal withholding. Rather, they are subject to 10% federal withholding, unless the participant elects otherwise (like a hardship distribution).
Note: Participants are not required to receive the special tax notice (i.e. the “402(f) notice”) normally required for eligible rollover distributions; however, the plan sponsor must provide notification to the participant of their right to waive the applicable 10% federal withholding and provide them the opportunity to do so.
How does a plan report coronavirus-related distributions on Form 1099-R? At this point, the IRS has not issued guidance. Presumably, it will be reported normally as a taxable distribution, although it is possible the IRS will create a new code for this purpose.
How does a participant tell the IRS they want to pay the applicable income tax over the three-year period? It is anticipated the IRS will update IRS Forms 8915A and 8915B (which address previous Disaster Retirement Plan Distributions and Repayments) for this purpose.
How does a participant “repay” the distribution to defer taxation? If a participant repays all (or a portion) of a coronavirus-related distribution, it is treated as a 60-day rollover provided it is made within the three-year window. The repayment can be made to the distributing plan (if accepts rollovers), to another employer’s qualified plan that accepts rollovers, or to an IRA. Further, the repayment can be made in one (or more) payments.
Again, it is anticipated the IRS will update IRS Forms 8915A and 8915B to be used for this purpose. In that case, the reporting burden will be on the plan participant, not the plan itself.
If a participant “repays” a coronavirus-related distribution, how is it treated from a plan and recordkeeping perspective? The answer isn’t entirely clear. Since it is treated as a 60-day rollover, however, it would presumably be treated as a rollover contribution. In that case, if repaid to the distributing plan, it would be treated as a related rollover for top-heavy purposes. Hopefully, the IRS will provide guidance on this point.
Important Note: It is expected the IRS and DOL will issue guidance with respect to the provisions of the CARES Act, as well as other retirement plan-related matters that were not addressed in the Act. It is also possible Congress will pass additional legislation, so the situation remains fluid.
As regulations and further legislation is passed, EJReynolds will keep you informed and up to date. We are taking all necessary precautions and monitoring the situations, but we are here for you and want to assure you we will continue to provide the level of service you have come to expect. We hope you, your families and circle of friends are and remain healthy. We will get through this, one day at a time.