Along with the physical and emotional toll of the COVID-19 coronavirus pandemic, the economic impact of the outbreak has been truly staggering. The historic $2 trillion Coronavirus Aid, Relief, and Economic Security Act (CARES Act) passed into law Friday includes special rules for the use of retirement funds, a temporary waiver of required minimum distribution rules for certain retirement plans and accounts, allowance of partial above the line deduction for charitable contributions and modification of limitations on charitable contributions during 2020. Below is a summary detailing these retirement plan-focused relief provisions.
Special Rules for Use of Retirement Funds
The CARES Act waives the 10% early withdrawal penalty tax under Internal Revenue Code Section 72(t) on early withdrawals up to $100,000 from a retirement plan or IRA for an individual who:
- Is diagnosed with COVID-19;
- Has a spouse or dependent who is diagnosed with COVID-19;
- Experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work because of lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or
- Experiences other factors as determined by the Treasury Secretary.
The legislation also permits those individuals to pay tax on the income from the distribution ratably over a three-year period and allows individuals to repay that amount tax-free back into the plan over the next three years. Those repayments would not be subject to the retirement plan contribution limits. There is no requirement that the repayment occur in one tranche. Amounts can be paid to a qualified plan or an IRA so long as the account is one to which a rollover contribution could be made under the Code.
Distributions will be deemed to meet the permissible distribution requirements of section 401(k), which essentially means that they will satisfy the hardship distribution provisions of the Code. They will be treated as exempt from tax withholding and exempt from the trustee to trustee transfer rules (that require a plan to offer a trustee to trustee transfer to participants taking distributions).
The CARES Act also doubles the current retirement plan loan limits from $50,000 to the lesser of $100,000 or 100% of the participant’s vested account balance in the plan, and increases the percentage test limit for loans from half the present value of the participant’s benefit to the present value of his entire benefit under the plan. Individuals with an outstanding loan from their plan with a repayment due from the date of enactment of the CARES Act through Dec. 31, 2020, can delay their loan repayment(s) for up to one year.
Subsequent loan repayments must be adjusted to reflect the delay in the 2020 repayment and any interest accruing during that delay. The five-year limit on loan repayments in section 72(p) disregards the one-year delay for 2020. The individuals to whom this provision applies are the same as those covered by the provision permitting penalty-free distributions.
The legislation further permits retirement plans to adopt these rules immediately, even if the plan does not currently allow for hardship distributions or loans, provided the plan is amended on or before the last day of the first plan year beginning on or after Jan. 1, 2022. In the case of governmental plans, that date is the last day of the plan year beginning on or after January 1, 2024. The Secretary of the Treasury can delay these dates. The Act makes clear that the retroactive amendment will not violate the cutback provisions of Employee Retirement Income Security Act of 1974 (ERISA) or the Code.
Temporary Waiver of Required Minimum Distribution Rules for Certain Retirement Plans and Accounts
The CARES Act waives required minimum distributions (RMDs) for calendar year 2020 for defined contribution (DC) plans, including 401(k), 403(b), 457(b) and IRA plans, allowing individuals to keep funds in their retirement plans. Thus, the change does not appear to apply to defined benefit plans. Under current law, individuals generally at age 72 must take an RMD from their DC plans and IRAs. The legislation also includes special rules regarding the waiver period to, in essence, hold harmless those individuals (and plans) who took advantage of the RMD waiver for 2020. The delay applies to both 2019 RMDs that needed to be taken by April 1, 2020 and 2020 RMDs. The CARES Act also adds the special rollover rule similar to the one enacted in 2009, allowing amounts subject to the RMD rules in 2020 to be rolled over.
Allowance of Partial above the Line Deduction for Charitable Contributions
The bill creates an above-the-line charitable deduction beginning 2020 by allowing a deduction not to exceed $300 of cash contributions to qualifying charities, but is available only to a taxpayer who does not elect to itemize their deductions. Thus, the taxpayer receives the deduction in addition to the standard deduction.This above-the-line deduction is here for 2020 and beyond.
Modification of Limitations on Charitable Contributions During 2020
The CARES Act encourages individuals to contribute to charitable organizations in 2020 by relaxing some of the limitations on charitable contributions. For individual donors, the Act allows charitable contributions to be deducted up to 100% of AGI for 2020, with any excess contributions available to be carried over to the next five years. For corporate donors, the limit would increase from 10% of adjusted taxable income to 25%. The Act further increases to 25% (from 15%) the limitation on donations of food inventory.
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