The Coronavirus Aid, Relief, and Economic Security (CARES) Act (passed in March of 2020) contains many provisions intended to reduce taxpayers’ financial hardships associated with the COVID-19 pandemic.  One of the provisions of the Act concerns certain withdrawals from retirement accounts in 2020.  Normally, withdrawals from retirement accounts by taxpayers under age 59 ½ are subject to a 10% early withdrawal penalty.  Under the CARES Act, if certain requirements are met, the 10% penalty does not apply.

The maximum amount that may be withdrawn penalty-free is $100,000 per individual.  In order to qualify for penalty-free withdrawal, the following requirements must be met:

  • The distribution must be made to a qualified individual.  A qualified individual must meet one of the following requirements:
    • Diagnosis of COVID-19 by a test approved by the CDC
    • Experienced adverse financial consequences due to
      • being quarantined, furloughed or laid off
      • having work hours or pay reduced
      • having been unable to work due to a lack of child care
      • having owned or operated a business that has been closed
      • having a reduction in self-employment income
      • having a job offer rescinded or a start date delayed
  • The distribution must be made from an eligible retirement plan such as an IRA, 401(k), 401(a), 403(a), 403(b), or 457(b).
  • The distribution must have been made between January 1, 2020 and December 31, 2020.

While not subject the 10% penalty, the distribution is still taxable.  The CARES Act provides the option of reporting the entire distribution on the 2020 tax return or reporting the distribution ratably over three years.  For example, if you took retirement distributions of $75,000 in 2020, you would have the option to report $25,000 of income in each 2020, 2021, and 2022. 

In addition, the CARES Act allows a taxpayer to recontribute any portion of a COVID-19 related distribution to a qualified plan within three years from the date of receipt.  Any amount recontributed is considered a tax-free rollover and excluded from income.  Because of the three-year recontribution window, tax planning opportunities exist.  For example, if the funds are recontributed prior to filing the 2020 tax return, they are excluded from income.  This can be as late as October 15, 2021 if the return is extended.  If the funds are recontributed after filing the 2020 return, an amended return may need to be filed.  Several timing scenarios may occur.  Consult your tax advisor to determine the best course of action for your specific situation.