This year of 2020 will go down in history as one filled with unprecedented challenges. In addition to the coronavirus pandemic, there have been numerous tropical storms and hurricanes, terrible fires destroying the western U.S., and even derecho winds that hit the Midwest agricultural states.

All of these disruptions affected our businesses and our personal lives. Congress and the White House responded with legislation in early Spring which included the Paycheck Protection Program (PPP) and the Coronavirus Aid, Relief, and Economic Security (CARES) Act. Let’s take a moment to study how the CARES Act affected retirement.

Required Minimum Distribution (RMD) Rules

Past computation of prior RMDs stated that the plan trustee would determine the retirement account value at December 31 (A) of the prior year, then, in most cases, using an IRS issued “Uniform Lifetime Table” based on the participant’s age, establish a divisor (B) with the computation of the RMD made by taking A and dividing by B. Many account values were and still may be low compared to December 31, 2019. This means for 2020 individuals will not be forced to take withdrawals. Hopefully, this waiver for 2020 will allow the retirement investment time to recover.

Distributions

Another provision of the CARES Act expanded access to your retirement funds for distributions made during 2020. Certain “qualified” individuals, as defined below, may distribute up to $100,000 from their retirement plan and avoid the 10% early withdrawal penalty. The income normally taxed in the year of distribution can be recognized alternatively over the three years of 2020, 2021, and 2022. 

If the qualified individual should recontribute these funds to an eligible retirement plan within three years of the distribution, then none of the 2020 distribution would be taxable. This would necessitate the filing of amended 2020 and 2021 tax returns to request a refund of the taxes previously paid on one-third of the distributions in each of 2020 and 2021. After these refunds, the effect is basically a tax-free loan for three years from the retirement plan. 

Qualified individuals are defined as those that are coronavirus affected, including those diagnosed with coronavirus, those who had a spouse or dependent who was diagnosed, or who experienced financial adversity due to being quarantined, furloughed, laid off, or working fewer hours due to the virus, or those lacking proper childcare due to the virus. 

The use of these effectively three-year interest-free loans can be beneficial to taxpayers who have experienced cash flow shortage during 2020 or who anticipate future shortages if distributions can be completed by December 31, 2020.

ROTH Conversions

Even though the CARES Act did not address ROTH conversions, we believe that 2020 could possibly be an appropriate year to consider a ROTH conversion. With no RMDs required in 2020 and with income levels anticipated to be lower due to pandemic related restrictions, conversion to a ROTH in a year of low no-income would result in lower taxes.

The advantage of a ROTH conversion lays in the fact that the future ROTH earnings are allowed to accumulate and eventually can be distributed tax-free to the individual or to his/her beneficiaries. Unlike the “good old days” of recharacterization, current law states these ROTH conversions are not reversible, so be prepared to pay the associated taxes due to the conversions, preferably with funds other than those of the converted retirement.

Conclusion

As with all tax planning techniques, we highly suggest before implementing any of these ideas the taxpayer consults with their tax and financial advisors. The ideas presented above are appropriate in most general cases, but specifics to that particular taxpayer may preclude a technique’s applicability.

Holden Moss CPAs is dedicated to aiding businesses in this difficult time. We will provide you with all the tools and information necessary to succeed. If you have any questions regarding your retirement plan, give us a call at (919) 556-6216. Contact us via email at admin@holdenmoss.com. We look forward to working with you.