March 30, 2020
Written by: David Beck, CPA, QPA, ERPA
The following is a summary of the major provisions of the Coronavirus Aid, Relief, and Economic Security (CARES) Act that most impact retirement plans. The CARES Act was passed on March 27, 2020 and provides much-needed access to retirement savings for those in financial distress as a result of the coronavirus pandemic. The following Executive Summary will provide you with an awareness of the kinds of changes that were enacted; those of you who require additional details should read on.
- Tax favored distributions of up to $100,000 are available to Qualifying Individuals. A Qualifying Individual is anyone who is affected by the coronavirus pandemic (as defined). The related taxable income can be reported evenly over three years. These amounts can be repaid to the Plan within three years to reverse the tax implications.
- Solely for Qualifying Individuals, Participant loan limits have been increased for the next 6 months only (ending September 23, 2020) to the lesser of a) 100% of a participant’s vested account balance; or b) $100,000. The normal loan limits are 50% and $50,000, respectively.
- Solely for Qualifying Individuals, there is relief on Participant loan payments that are due between now and December 31, 2020. The due date for any loan payment due within this date range, including with respect to newly issued loans, is delayed for one year.
- Required Minimum Distributions for 2020 have been waived for defined contribution plans, including any 2019 RMDs that are due on April 1, 2020. Required Minimum Distributions for defined benefit plans (including Cash Balance Plans) were not altered.
- Any minimum funding obligations that are due to a defined benefit plan (including Cash Balance Plans) any time during 2020 have been extended until January 1, 2021.
- No additional information is provided below on this topic. Please contact us if you would like to discuss this relief in more detail.
Please consider that many of these new rules may not be available operationally for some time. If your Plan uses a “record-keeper,” it will take weeks to reprogram their systems to accommodate many of these changes. Also, each of the plan provisions described below is an optional change to your Plan. If you choose to implement any of these optional provisions, the amendment is not required until 2022.
PART I: Coronavirus-Related Distributions
Which Participants qualify for these distributions (Qualifying Individuals)?
- Any participant diagnosed with COVID-19 via a CDC approved test (discussed below);
- Any participant whose spouse or dependent has been diagnosed with the virus; and
- Any participant who has experienced “adverse financial consequences” as a result of one of the following events or circumstances, provided they are coronavirus-related:
- furlough or lay off;
- reduction in work hours;
- loss of wages due to the unavailability of childcare services;
- [with respect to business owners], a closure or reduction in operating hours; or
- “other factors as determined by the Secretary of the Treasury.”
Which money-types are available for these distributions?
All balances held under a defined contribution plan, with the exception of money-purchase balances (rare), can be accessed under these new distribution provisions by a Qualifying Individual. There are no additional conditions imposed. With respect to money purchase balances and defined benefit plans, distributions even to Qualifying Individuals can only be made if the Participant is eligible for a distribution based on some other provision*. Regardless, because the payment is being made to a Qualifying Individual, the favorable tax treatment described below should still be available.
*Some in the industry are of the opinion that money purchase balances and defined benefit balances are available in the same manner as all other balances. Clarification will be required regarding two sections of the law which at least appear to be contradictory.
How much can be withdrawn as a coronavirus-related distribution?
Individuals can withdraw up to $100,000 under these provisions. The limit is applied by aggregating distributions from all of an individual’s tax-qualified accounts (e.g., 401(k)’s, 403(b)’s, IRA’s). There is not a provision in the statute that limits the withdrawal to the amount of lost income or to the amount of the need.
How are these distributions taxed?
These distributions are taxed as regular income; however, the 10% penalty on early distributions (e.g., distributions before age 59½) does not apply. In addition, the resulting taxable income can be reported ratably over three years, beginning with 2020 (i.e., 1/3 in each of 2020, 2021 and 2022). These distributions are not subject to the “mandatory 20%” withholding requirements, although state withholding may apply.
Can these distributions be “repaid”?
Yes. Some or all of the amount withdrawn can be repaid in one or more payments on or before the three-year anniversary of the distribution. By repaying these amounts, the taxable distribution is essentially reversed. If the related income was reported on a previous tax return, an amended tax return will be required to recover the related taxes. These repayments can be made to any tax qualified plan or IRA. If repaid to a qualified plan, they are classified as rollover contributions by the receiving Plan.
During what period of time are these distributions available?
These rules apply to distributions paid between January 1, 2020 and December 30, 2020.
What documentation are Plan Administrators required to obtain prior to approving a coronavirus-related distribution?
None. Plan Administrators can rely on a Participant’s written certification that he or she is eligible for the distribution. The statute does not include a qualification regarding the Plan Administrator’s knowledge to the contrary; however, if a Plan Administrator does possess such contrary knowledge, you may be under an implied obligation to take action. For example, assume a small employer’s business was completely unaffected by the pandemic. If the individual applying for the distribution a) is single, b) has no dependents, c) never took a sick day; but nevertheless is certifying that they are a Qualifying Individual, you might have liability if you approved such an application (we just don’t know at this point).
What questions or issues remain?
- One of the possible criteria for being considered a Qualifying Individual is that you are diagnosed with COVID-19 via a CDC approved test. However, testing is not yet universally available (much less so 4 weeks ago). This issue is greatly mitigated because the “adverse financial consequences” provisions should nevertheless render Qualifying Individual status even absent the CDC test.
- The “adverse financial consequences” provisions do not extend to spouses or dependents. This is a remarkable omission since it is very common for a married couple’s retirement savings to be heavily weighted in favor of one spouse or the other, even though their income (and therefore the potential for “adverse financial consequences”) may be much more evenly distributed. This omission becomes more important in the event that one’s spouse is or was “presumed” to have COVID-19 but, due to the lack of available testing, was not diagnosed via a CDC approved test. Had the COVID-19 testing been more widely available, the Participant’s accounts would have been accessible as a result of the spouse’s diagnosis (assuming the results were positive). This may be adjusted in the “technical corrections” legislation that inevitably follows major legislation.
PART II: Participant Loans
How did the CARES Act change the maximum participant loan available?
Participant loan limits have been increased for Qualifying Individuals. These increases are effective March 27, 2020, and expire on or about September 23, 2020. The maximum loan limits have been increased to the lesser of a) 100% of a participant’s vested account balance; or b) $100,000. These limitations are increased from the regular limits of 50% and $50,000, respectively. All of a Participant’s outstanding loans are aggregated for purposes of applying these limits. This new legislation does not impact any other restrictions a Plan may have imposed, such as a limitation on the number of outstanding loans permitted.
Did the CARES Act provide relief for participant loan payments missed due to furloughs and layoffs?
Any participant loan payments due from Qualifying Individuals between March 27, 2020 and December 31, 2020 can be delayed for up to one year. If this one-year delay applies, the normal five-year maximum repayment term is extended to six years. The statutory language does not provide any detailed information regarding how exactly this will be implemented nor what a typical amortization schedule might look like under these rules. Also, the statute indicates that the “due date shall be delayed for one year” but does not forbid loan payments during this window.
- Will Participants be able to elect whether or not to take advantage of the delay? The answer is not clear.
- Who will be responsible for ensuring loan repayments resumed on January 1, 2021, and then are increased following the 1-year suspension? The Plan Administrator. Certain recordkeepers might be able to assist with this, although there is very little incentive for them to invest heavily in this feature because it will be moot by the end of 2021.
It should be noted that these provisions, of course, pre-suppose that the individual has a paycheck from which to withhold loan payments. Presumably, the vast majority of Participants who have paychecks will opt to continue to repay their loans pursuant to their existing amortization schedules. Because a) this feature is an optional provision; b) it benefits those who are the least affected; and c) because of the administrative burdens described above, Plan Administrators may opt not to take advantage of this relief.
PART III: Required Minimum Distributions (RMDs)
Are the RMDs waived for the calendar 2020?
Yes. The RMD rules for defined contribution plans (including 401(k)’s, 403(b)’s and IRA’s) do not apply to any individuals in 2020. In addition, any RMD required to be paid by April 1, 2020 (i.e., a Participant’s initial RMD for 2019) has also been waived unless that distribution was already paid in 2019. No relief on RMD rules was provided for defined benefit plans. There is some relief on RMDs for inherited IRAs, but that topic is not covered by this article.
The reason that Congress included this waiver is because the amount of the 2020 Required Minimum Distribution is fixed based on the December 31, 2019 balance, while the securities that must be sold to fund that distribution have decreased in value by as much as 30%. This valuation mismatch is widely perceived as unfair. In addition, not waiving the distribution requirement would mean forcing retirees to sell some of their investments when the market is down, thus inhibiting their ability to recoup their losses.