As you know, the Coronavirus Aid, Relief, and Economic Security (CARES) Act was signed into law on March 27, 2020 and includes provisions that are intended to provide relief for the economic downturn caused by the coronavirus disease 2019 (COVID-19). The following is an overview of some of the provisions for retirement savings accounts.
Waiver of RMD for 2020
Owners of tax-deferred retirement accounts were otherwise supposed to take a required minimum distribution (RMD) from those retirement accounts for 2020, as long as they were at least age 70½ on December 31, 2019.
Generally, the formula for calculating a 2020 RMD includes the fair market value (FMV) of the account as of December 31, 2019. Because of the recent downturn of the stock market, 2020 RMDs-which would have been calculated using the December 31, 2019 FMV-would represent a disproportionate percentage of the current market value of the retirement account.
To address this issue, the CARES Act waives RMDs for 2020. As a result of this waiver, there are no 2020 RMDs for the following accounts:
- Accounts under defined contribution plans, such as 401(k)s and profit-sharing plan accounts,
- 403(a) qualified annuity plans,
- 403(b) plans,
- An eligible deferred compensation 457(b) plan maintained by a state, political subdivision of a state, and any agency or instrumentality of a state or political subdivision of a state, and
- Traditional IRAs (which includes SEP IRAs and SIMPLE IRAs for this purpose).
The CARES Act RMD waiver does not apply to defined benefit plans.
OPPORTUNITIES: The waiver of RMD provision is designed to allow investors from being adversely affected from taking distributions at in-opportune times. Based upon this. What should we be looking to do in the short term?
1) Consider temporarily halting income distributions. If you can afford to live on savings for a few months, when the markets eventually recover, you will have preserved a greater amount of future income for yourself. ($1,000 invested in the S&P500 becomes $1,367 when the index eventually recovers to February levels).
2) Consider replacing RMDs taken within the last 60 days. This not only saves taxes but gets the funds growing tax-deferred again. (See information below)
3) Consider converting existing IRAs to Roth IRAs while the market is low. $100,000 converted at April 3rd levels will see $36,700 in tax free gains (assuming invested in the S&P500) as the index hits new highs in future months.
Also, for those who are no longer forced to take RMDs this year, more can be converted than last year without incurring additional tax. A 70 year old with a $1 million IRA balance at the end of 2019 can convert an extra $36,000 without increasing their tax burden for 2020. Converting to Roth IRA's also keeps these funds from being subject to RMDs in future years. Not having to take these RMDs allows more funds to continue growing tax-free.
Please let us know if you would like to look at the numbers to determine the optimal amount for your conversion over the next couple of months.
Waiver for certain 2019 RMDs not taken in 2019
While an RMD is usually required to be taken by December 31 of the year for which it is due, an exception applies for the year for which the first RMD is due, which is usually the year the individual reaches age 70½. For employer-sponsored retirement plans that permit participants to defer RMDs past age 70½, the first RMD would be due for the year a participant retires from working with the employer sponsoring that plan, if that is later than the year the individual reached age 70½.
Under the exception to the December 31 deadline, the RMD for the first RMD year may be taken as late as April 1 of the following year, which would mean a deadline of April 1, 2020 for those whose first RMD was due for 2019. This April 1 deadline is referred to as the required beginning date (RBD).
These 2019 RMDs are split under the CARES Act, with the 2020 RMD waiver applying only to such amounts that were not distributed by December 31, 2019. For those that took those RMDs in 2019, the waiver does not apply.
Please note: For years after 2019, the RMD age is increased to 72, which would make the RBD for someone who reaches age 70½ after December 31, 2019, April 1 of the year that follows the year in which the individual reaches age 72. Such individuals are not affected by the CARES Act.
Rollovers of 2020 RMDs that are no longer RMDs
An RMD is not eligible to be rolled over. But, since these 2020 RMD amounts are no longer classified as RMDs because of the CARES Act, those amounts may be rolled over within 60 days of the account owner receiving the amount, as long as the amount is eligible for rollover.
An example of an amount that would not be eligible for rollover: a distribution from an IRA that would break the one-per-12-month limitation that applies to rollovers between IRAs. Under this one-per-12-month limitation:
An individual may perform an IRA to IRA rollover [taking a distribution from a traditional IRA and rolling it (or a portion of it) over to the same or another traditional IRA-or taking a distribution from a Roth IRA and rolling it over to the same or another Roth IRA] only once during a 12-month period.
All of an individual's traditional and Roth IRAs are aggregated for the purpose of this one-per-12-month limitation.
Caution: No rollovers for non-spouse beneficiaries
Generally, amounts distributed from inherited IRAs and other inherited retirement accounts are not eligible for rollover. Therefore, while the 2020 RMDs are waived for beneficiary (inherited) retirement accounts, distributions that were already taken from these accounts may not be rolled over. An exception applies if the beneficiary is the surviving spouse of the decedent. Under this exception, a spouse beneficiary may roll over a distribution from an inherited IRA or other inherited retirement account, but the rollover must be made to the spouse's own (not a beneficiary's) retirement account.
1-year extension for beneficiaries subject to the 5-year rule
A beneficiary of a retirement account is subject to the 5-year rule, if:
- The beneficiary is an individual who inherited a retirement account from an owner who:
- died by December 31, 2019,
- died before the owner's RBD, and
- the 5-year rule was elected by the beneficiary or applied under the terms of the governing plan agreement/document.
- The beneficiary is a nondesignated beneficiary-generally a nonperson-who inherited a retirement account from an owner who died before the owner's RBD.
Under the 5-year rule, distributions are optional, until December 31 of the fifth year that follows the year in which the retirement account owner died, at which time the entire balance must be distributed.
The CARES Act extends the 5-year period to 6 years, as long as the 5-year period would have included 2020.
Coronavirus-related waivers & extended deadlines
The CARES Act relaxes the income tax rules that applies to coronavirus-related distributions. A coronavirus-related distribution is defined as one that is made on or after January 1, 2020 and before December 31, 2020 to an individual:
- Who 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,
- Whose spouse or dependent is diagnosed with such virus or disease by such a test, or
- 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 IRS.
Coronavirus-related distributions are capped at $100,000 per taxpayer.
The provisions for coronavirus-related distributions include:
- A waiver of the 10% early distribution penalty:Distributions from a retirement account are subject to a 10% early distribution penalty or additional tax, if they occur before the retirement account owner reaches age 59½, unless an exception applies. Coronavirus-related distributions have been added to the list of exceptions to the 10% early distribution penalty.
- Extension of the 60-day rollover deadline:A rollover contribution is generally required to be completed within 60-days of the account owner receiving the distribution. The CARES Act extends the 60-day deadline to three years for coronavirus-related distributions.
- Three-year income spread.Generally, a distribution from a retirement account is included in the recipient's income for the year in which the distribution is made. The CARES Act allows retirement account owners to spread any portion of a distribution that is required to be included in income, ratably over the three-taxable-year period beginning with the taxable year of the distribution.
Increase in loan amounts
For employer-sponsored retirement plans that permit loans, an eligible participant may borrow the lesser of 50% of the participant's vested account balance or $50,000, whichever is less. The CARES Act increases the $50,000 limit to $100,000, for qualified individuals, for loans made during the 180-day period beginning on March 27,2020-the date of the enactment of the act. A qualified individual is a person who would meet the requirements for a coronavirus-related distribution.
For participants who already have an outstanding loan under the plan, and whose vested account balance is 10,000 or less, a special calculation will need to be done to determine the loan amount for which such individuals are eligible.
Please feel to reach out to us for more information. As always we are available to answer questions in person, by email, phone or video-conference.
Joe D. Franklin, CFP is Founder and President of Franklin Wealth Management, and CEO of Innovative Advisory Partners, a registered investment advisory firm in Hixson, Tennessee. A 20+year industry veteran, he contributes guest articles for Money Magazine and authors the Franklin Backstage Pass blog. Joe has also been featured in the Wall Street Journal, Kiplinger's Magazine, USA Today and other publications.
Important Disclosure Information for the "Backstage Pass" Blog
Please remember that past performance may not be indicative of future results. Indexes are un-managed and cannot be invested into directly. Index returns do not reflect fees, expenses, or sales charges. Index performance is not indicative of the performance of any investments. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Franklin Wealth Management), or any non-investment related content, made reference to directly or indirectly in this blog will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from Franklin Wealth Management. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. Franklin Wealth Management is neither a law firm nor a certified public accounting firm and no portion of the blog content should be construed as legal or accounting advice. A copy of Franklin Wealth Management’s current written disclosure statement discussing our advisory services and fees is available for review upon request.