United States: Retirement relief provisions accessible to more taxpayers

In brief

As described in our previous alert, “Important Implications Coronavirus Aid, Relief and Economic Security Act in US,” Section 2202 of the CARES Act provides that “qualified individuals” may take COVID-19-related distributions from eligible retirement plans (such as Code sections 401(k), 403(b), and 457(b) plans, and IRAs) between 1 January 2020 and 31 December 2020, without incurring the normal 10% early withdrawal penalty and without immediately recognizing the distributed income for tax purposes. Instead, such income is recognized ratably over three years unless the taxpayer elects to recognize the full amount in the current year. Further, COVID-19-related distributions are capped at an aggregate limit of $100,000 from all plans and IRAs, and may be rolled-over during an extended three-year period (rather than the usual 60-day period) to reverse the tax consequences and continue tax deferral.


Contents

In depth

Further, COVID-19-related distributions are capped at an aggregate limit of $100,000 from all plans and IRAs, and may be rolled-over during an extended three-year period (rather than the usual 60-day period) to reverse the tax consequences and continue tax deferral. The CARES Act also increases the limit on the amount a qualified individual may borrow from an eligible retirement plan (not including an IRA) and permits a plan sponsor to provide qualified individuals up to an additional year to repay their plan loans.

In Notice 2020-50, 2020–28 I.R.B. 35 ("the Notice"), the IRS clarified that employers have the option of adopting the distribution and loan rules of section 2202 of the CARES Act. An employer is permitted to choose whether, and to what extent, to amend its plan. If an employer does not treat a distribution as COVID-19-related, however, a qualified individual may treat a distribution that meets the requirements to be a COVID-19-related distribution as COVID-19-related on the individual’s federal income tax return. The Notice also clarifies that certain distributions can never be treated as COVID-19-related distributions (for example, distributions to correct section 402(g), section 415 or ADP/ACP test results).

Qualified Individuals

In the Notice, the IRS also expands the definition of a qualified individual. Under the CARES Act, as written, a qualified individual was limited to:

  • a plan participant who is diagnosed (or whose spouse or dependent is diagnosed) with the virus SARS-CoV-2 or with coronavirus disease 2019 ("COVID-19") by a test approved by the Centers for Disease Control and Prevention; or 
  • a plan participant who experiences adverse financial consequences as a result of being quarantined, being furloughed or laid off or having work hours reduced due to such virus or disease, being unable to work due to lack of child care due to such virus or disease, closing or reducing hours of a business owned or operated by the individual due to such virus or disease, or other factors as determined by the Secretary of the Treasury.
  • After receiving comments from the public requesting broader relief, the IRS expanded the definition of a qualified individual in the Notice to include an individual who experiences adverse financial consequences as a result of:
  • the individual having a reduction in pay (or self-employment income) due to COVID-19 or having a job offer rescinded or start date for a job delayed due to COVID-19;
  • the individual’s spouse or a member of the individual’s household being quarantined, being furloughed or laid off, or having work hours reduced due to COVID-19, being unable to work due to lack of childcare due to COVID-19, having a reduction in pay (or self-employment income) due to COVID-19, or having a job offer rescinded or start date for a job delayed due to COVID-19; or
  • closing or reducing hours of a business owned or operated by the individual’s spouse or a member of the individual’s household due to COVID-19.

The administrator of an eligible retirement plan may rely on an individual’s certification that the individual satisfies the conditions to be a qualified individual in determining whether a distribution is a COVID-19-related distribution, unless the administrator has actual knowledge to the contrary. A sample certification form is included in the Notice. The Notice noted, however, that individuals must actually be qualified individuals to take advantage of this relief on their returns.

Employers report payments of a COVID-19-related distribution on Form 1099-R, Distributions from Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. If a payor is treating the payment as a COVID-19-related distribution and no other appropriate code applies, the payor may use distribution code 2 in box 7 of Form 1099-R.

In order to receive favorable treatment for the distribution, a qualified individual reports a COVID-19-related distribution on the individual’s federal income tax return for 2020 and on Form 8915-E, Qualified 2020 Disaster Retirement Plan Distributions and Repayments. The qualified individual must include the taxable portion of the distribution in income ratably over 2020, 2021, and 2022 unless the individual elects to include the entire amount in income in 2020.

Rollover of Coronavirus-Related Distributions

A qualified individual who receives a COVID-19-related distribution that is eligible for tax-free rollover treatment may recontribute, at any during the three-year period beginning on the day after the date on which such distribution was received, any portion of the distribution to an eligible retirement plan that accepts eligible rollover contributions. However, eligible retirement plans are not required to change their terms or procedures to accept repayments. Repayment of a COVID-19-related distribution is determined and reported for any year on Form 8915-E.

The Notice provides several examples of recontribution timing for tax purposes. The examples demonstrate that where a qualified individual has elected to include the entire amount in income in 2020, recontributed amounts paid before the due date for the timely-filed income tax return (including extensions) for 2020 are not included in gross income. For any amounts recontributed after the due date for the timely-filed income tax return (including extensions) but during the three-year rollover period, the qualified individual must file an amended return.

For qualified individuals including the income ratably over the three-year rollover period, a recontribution of any portion of the COVID-19-related distribution before the due date for the timely filed income tax return (including extensions) for a tax year in the three-year rollover period, the amount of the recontribution will reduce the ratable portion of the COVID-19-related distribution that is includible in gross income for that tax year. The qualified individual may then carryforward or carryback (using an amended return) any excess amount above the ratable portion for that year to reduce the ratable portion for other tax years in the three-year rollover period.

Loan Relief

Section 2202(b)(2) of the CARES Act permits an additional year for repayment of loans from eligible retirement plans (not including IRAs) and section 2202(b)(1) relaxes limits on loans. If a loan is outstanding on or after 27 March 2020, and any repayment on the loan is due from 27 March 2020, to 31 December 2020, that due date may be delayed under the plan for up to one year and then reamortized (taking into account interest) over a period that is up to one year longer than the original term of the loan. The Notice provides a safe harbor if a qualified individual’s obligation to repay a plan loan is suspended under the plan, but also noted that there may be other reasonable ways to administer these rules.

The CARES Act also permits employers to increase the maximum loan amount under section 72(p)(2)(A) available to qualified individuals. For plan loans made to a qualified individual from 27 March 2020, to 22 September 2020, the aggregate limit may be increased up to the lesser of: (1) $100,000 (minus any outstanding plan loans of the individual), or (2) 100 percent of the individual’s vested benefit under the plan.

The Notice expands upon COVID-19-related relief for retirement plans and IRAs questions and answers released by the IRS on 4 May 2020.

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