Ernie Guerriero, CLU®,ChFC®,CEBS,CPCU®,CPC®,CMS,AIF®,RICP®,CPFA
I’ve addressed two interesting topics regarding these distributions. First, can a client take a Covid-related distribution and transfer it to a Roth IRA (and thereby spreading the tax over three years)? Second, can a client take a Covid-related distribution and purchase life insurance? As you notice from the CARES Act and also from the further clarification in Notice 2020-50 there is nothing preventing a transfer to a Roth or the purchase of life insurance. However, and keep in mind, the client must be a “qualified individual” and the Plan must allow for such a distribution. Additionally, if a client qualifies for such distribution it is my opinion that the distribution should be used to assist the client financially in meeting monthly living expenses. It can be argued that the scenarios I’ve outlined above are not in the spirit or the intention of the Act and further Notice.
On June 19 the IRS has announced that it is extending relief to plan participants whose spouses are laid off and that take COVID-related distributions or loans from their retirement accounts, as well as new safe harbors for loan repayments. In Notice 2020-50, the IRS expands the categories of individuals eligible for these types of distributions and loans and provides guidance and examples regarding how qualified individuals will reflect the tax treatment of these distributions and loans on their federal income tax filings. The IRS issued the Notice 2020-50 to help retirement plan participants affected by COVID-19 take advantage of the CARES Act provisions providing enhanced access to plan distributions and plan loans. More specifically, the notice provides guidance relating to the application of section 2202 of the CARES Act for qualified individuals and eligible retirement plans.
Notice 2020-50 expands the definition “qualified individual” to take into account additional factors such as:
- reductions in pay;
- rescissions of job offers;
- an individual’s delayed start date; and
- adverse financial consequences to an individual arising from the impact of the COVID-19 coronavirus on an individual’s spouse or household member.
Under Notice 2020-50, a qualified individual is anyone who:
- is diagnosed with the virus SARS-CoV-2 or the Coronavirus disease 2019 (collectively, COVID-19) by a test approved by the Centers for Disease Control and Prevention (including a test authorized under the Federal Food, Drug, and Cosmetic Act); or
- whose spouse or dependent is diagnosed with the virus SARS-CoV-2 or the coronavirus disease 2019 (collectively, COVID-19) by a test approved by the Centers for Disease Control and Prevention (including a test authorized under the Federal Food, Drug, and Cosmetic Act); or
- experiences adverse financial consequences because the individual, the individual’s spouse or a member of the individual’s household experienced the following due to COVID-19:
- being quarantined;
- being furloughed;
- being laid off;
- having work hours reduced;
- being unable to work due to lack of childcare;
- closing or reducing hours of a business that they own or operate;
- reduced pay or self-employment income; or
- having a job offer rescinded or start date for a job delayed.
Notice 2020-50 clarifies that:
- employers can choose whether to implement these coronavirus-related distribution and loan rules;
- qualified individuals can claim the tax benefits of coronavirus-related distribution rules even if plan provisions aren’t changed; and
- administrators can rely on an individual’s certification that the individual is a qualified individual (and provides a sample certification).
Notice 2020-50 also notes that an individual must actually be a qualified individual in order to obtain favorable tax treatment. And it provides employers a safe harbor procedure for implementing the suspension of loan repayments otherwise due through the end of 2020, but notes that there may be other reasonable ways to administer these rules. Regarding the taxation of these distributions:
- Are not subject to 20% withholding, even though their distributions have special recontribution (rollover) rights;
- May spread out their tax liability by taking their distribution into income ratably over three years beginning with the year in which the distribution was received;
- Will have 10% withholding taken out unless they elect otherwise;
- Are not subject to the 10% early distribution penalty;
- Have a right to recontribute all or part of their distributions to an eligible retirement plan that accepts rollovers, including an IRA, within three years of the date of the distribution. The general limit of one rollover a year does not apply; and
- Can reduce the taxable portion of a distribution to the extent that it is recontributed to an eligible retirement plan or IRA.
- All plans are not required to accept rollovers and therefore to accept recontributions. However, a coronavirus-related distribution need not be recontributed to the plan that made the distribution. Participants may have the option of recontributing distributions to a new employer’s plan or to an IRA.