The Cares Act made it easier to take money out of retirement accounts, and put it back in, but the rules are tricky. Today I’ll answer some questions about those provisions, including how to return a required minimum distribution.
(Editor’s note: After this story was published, the Internal Revenue Service on Friday issued new guidance on coronavirus-related distributions. This version includes the latest updates.)
Q: “My wife and I lost earnings from the pandemic and are each withdrawing $100,000 from our IRAs to pay down our home equity line and maybe refinance our mortgage. I know we can pay it back over three years, but we would like to pay the money back before we incur tax liability on our 2020 taxes so we don’t have to file an amended return later. Do we have to pay it back by 12/31/20 or do we have until 4/15/21?”
A: One provision of the Cares Act created what’s known as a coronavirus-related distribution. It lets people who have a virus-related health or financial hardship withdraw up to $100,000 from all of their IRAs and 401(k)-type plans combined, and instead of declaring the entire withdrawal on their 2020 tax return, they can spread the income — and the tax on that income — evenly over 2020, 2021 and 2022.
Even better: If they return the money to an IRA or 401(k) within three years, it will be like they never took it out. They can file an amended return for the year or years it was included and recoup the tax they paid.
People younger than 59½ won’t have to pay the usual 10% penalty on early withdrawals, whether or not they return money to an account.
If the reader wants to return the money in time, so he and his wife don’t have to file an amended 2020 return, they must return it before they file their 2020 return, which could be as late as the extended due date of the return, according to the new IRS guidance. For 2020 returns, the extended due date is Oct. 15, 2021.
The IRS also expanded who can qualify for this distribution, said IRA expert Ed Slott. Under the latest rules, you, your spouse or a member of your household must be diagnosed with COVID-19 or experience an “adverse financial consequence” as a result of being quarantined, laid off, having work hours reduced, unable to get child care, having to close or cut back your business or having a job offer delayed or rescinded as a result of the coronavirus.
Q: “I took my required minimum distribution in January, before the Cares Act suspended them for 2020. You previously said the IRS may provide some relief for people who took them early this year and would like to return them. Any update on that?”
A: Once people turn 72 or 70½ (depending on birth year), they must begin taking required minimum distributions, better known as RMDs, from IRAs and 401(k)-type plans every year. People of any age also must take them from retirement accounts they inherit from someone other than a spouse.
Some people don’t like having to take money out because it’s added to income in the year taken and is taxable. (Roth accounts are generally exempt from required distributions.)
Another part of the Cares Act, enacted March 27, waives required distributions from IRAs and most 401(k)-type plans for 2020. This waiver applies to your own and inherited accounts.
People who took required distributions and would like to return them, have several possible options:
• Anytime you take a distribution from your own IRA or 401(k) account or one you inherited from your spouse, you can return the cash or securities you took out within 60 days. You won’t owe tax or an early withdrawal penalty. (If you withdrew stock, you must return the same number of shares.)
However, you can do this 60-day rollover only once every 365 days. And you cannot do this with an account you inherited from anyone other than your spouse. This wasn’t part of the Cares Act, and it’s not limited to required minimum distributions.
• In Notice 2020-23, the Internal Revenue Service effectively said that any distributions taken after Jan. 31 can be returned to retirement accounts by July 15, and they won’t be subject to tax or penalty.
The IRS still has not provided this break for required distributions taken in January. Slott says he believes the IRS eventually will, “but they have more pressing issues now, so I would just be patient and see what develops.”
• The coronavirus-related distribution described in my previous answer could be used to return unwanted January distributions, if you contract the coronavirus or experience one of the stated hardships anytime this year. This provision “is retroactive to the beginning of 2020. If you discover you have COVID-19 today, any distribution you took — including unwanted RMDs — earlier in the year now count as coronavirus-related distributions and can be returned,” Slott said.
• The 60-day rollover rule does not apply to rollovers from 401(k)s to IRAs, or from IRAs to 401(k) plans. If the reader has a 401(k), she might be able to roll her IRA distribution into the 401(k) by July 15, and not pay tax on it. But her 401(k) plan would have to allow it.
If all else fails, she could convert the money she withdrew from the IRA to a Roth IRA. She would still owe the tax on the distribution, “but at least the funds would end up in a tax-free Roth IRA,” Slott said. Normally, you cannot convert required distributions into a Roth IRA, but since distributions are not required this year, you could.
Q: “I am a retired city employee, taking required minimum distributions from my 457(b) plan. Is the 457(b) included among the other retirement plans in the 2020 exclusion for RMD?”
A: Yes. The suspension of RMDs applies “to all IRA accounts (including SEP and SIMPLE IRAs) and defined contribution plan accounts, such as those under 403(a), 403(b), 401(a), and 401(k) plans, as well as the federal Thrift Savings Plan (TSP). RMDs from 457(b) plans are also suspended, but only from plans offered by government employers,” according to a blog post by CPA Jeffrey Levine.