The IRS has extended relief to plan participants whose spouses are laid off and who take Coronavirus-related distributions or loans from their retirement accounts, as well as provided new safe harbors for loan repayments.
In Notice 2020-50, issued on June 19, the IRS expands the categories of individuals eligible for these types of distributions and loans and provides guidance and examples regarding how qualified individuals will reflect the tax treatment of these distributions and loans on their federal income tax filings.
Among the items the American Retirement Association (ARA) had fielded over the past several weeks were issues addressed in this notice—sample language for the qualified individual certifications and the codes to use for Form 1099-R for CRDs, along with safe harbor procedures for loan repayments.
Broader Distribution and Loan Eligibility
The CARES Act signed into law by President Trump on March 27, 2020, included provisions to ease retirement plan hardship and loan rules to free up funds for individuals impacted by the pandemic.
IRS Notice 2020-50 expands the CARES Act's definition of who is a qualified individual to include additional adverse financial consequences arising from the impact of COVID-19 – and extends that definition to an individual’s spouse or household member. As detailed in the guidance, a qualified individual is anyone who:
- is diagnosed, or whose spouse or dependent is diagnosed, with COVID-19 by a test approved by the Centers for Disease Control and Prevention (including a test authorized under the Federal Food, Drug and Cosmetic Act); or
- due to COVID-19 experiences adverse financial consequences as a result of the individual, their spouse or a member of the individual’s household (i.e., someone who shares the individual’s principal residence):
- being quarantined, furloughed or laid off, or having reduced work hours;
- being unable to work due to lack of childcare;
- closing or reducing hours of a business that they own or operate;
- having pay or self-employment income reduced; or
- having a job offer rescinded or start date for a job delayed.
Treatment of Distributions as CRDs
Notice 2020-50 also clarifies that employers can choose whether to implement these CRD and loan rules, and notes that qualified individuals can claim the tax benefits of CRD rules even if plan provisions aren’t changed.
Thus, for example, the IRS notes that an employer may choose to provide CRDs but choose not to change its plan loan provisions or loan repayment schedules. Further, the employer (or plan administrator) is permitted to develop reasonable procedures for identifying which distributions are treated as CRDs under its retirement plans. However, the plan must be consistent in its treatment of similar distributions. However, even if, under a plan, a distribution is not treated as Coronavirus-related, a qualified individual may treat a distribution that meets the requirements of the notice as a CRD on the individual’s federal income tax return.
Additionally, the guidance clarifies that administrators can rely on an individual’s certification that the individual is a qualified individual (and provides a sample certification), but also advises that an individual must actually be a qualified individual to obtain favorable tax treatment.
Rollover, Notice and Withholding Requirements
If a distribution is treated as a CRD by an employer retirement plan, the rules for eligible rollover distributions under Code Sections 401(a)(31), 402(f), and 3405 are not applicable to the distribution. Thus, the plan is not required to offer the qualified individual a direct rollover with respect to the distribution.
In addition, a plan administrator is not required to provide a 402(f) notice. Finally, the plan administrator or payor of the CRD is not required to withhold 20% of the distribution, as is usually required. The IRS notes, however, that a CRD is subject to the voluntary withholding requirements.
Tax Reporting
The IRS advises that eligible retirement plans must report the payment of a CRD to a qualified individual on Form 1099-R, even if the qualified individual recontributes the CRD to the same eligible retirement plan in the same year.
If a payor is treating the payment as a CRD (and no other appropriate code applies), the payor is permitted to use distribution code 2 (early distribution, exception applies) in box 7 of Form 1099-R. However, a payor also is permitted to use distribution code 1 (early distribution, no known exception) in box 7 of Form 1099-R. Many ARA members inquired about these procedures.
Accepting Recontributions of CRDs
In general, a qualified individual who receives a CRD that is eligible for tax-free rollover treatment is permitted to recontribute, at any time in a three-year period, any portion of the distribution to an eligible retirement plan that is permitted to accept eligible rollover contributions.
In order to obtain the relief, a plan administrator accepting the recontribution of a CRD “must reasonably conclude” that the recontribution is eligible for direct rollover treatment under the CARES Act and that the recontribution complies with the rules contained in this notice. Thus, the plan administrator may rely on an individual’s certification that the individual satisfies the conditions in determining whether a distribution is a CRD, unless the administrator has actual knowledge to the contrary.
The IRS says that it anticipates that eligible retirement plans will accept recontributions of CRDs, which are to be treated as rollover contributions, but notes that plans generally are not required to accept rollover contributions. And, for example, if a plan does not accept any rollover contributions, the plan is not required to change its terms or procedures to accept recontributions of CRDs.
Income Inclusion for CRDs
A qualified individual who receives a CRD is permitted to include the taxable portion of the distribution in income ratably over a three-year period that begins in the year of the distribution or the person can include the entire amount of the taxable portion in income in the year of the distribution.
The IRS advises that this election cannot be made or changed after the filing of the individual’s federal income tax return (including extensions) for the year of the distribution. As such, all CRDs received in a taxable year must be treated consistently (either all distributions must be included in income over a three-year period or all distributions must be included in income in the current year).
Tax Treatment of Recontributions of CRDs
However, if a CRD is eligible for tax-free rollover treatment, a qualified individual is permitted—at any time in the three-year period beginning the day after the date of a CRD—to recontribute any portion of the distribution, but not an amount in excess of the amount of the distribution.
In addition, a recontribution of a CRD will not be treated as a rollover contribution for purposes of the one-rollover-per-year limitation under Code Section 408(d)(3)(B), the IRS advises.
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Notice 2020-50 provides several examples of this treatment for recontributions of a CRD made to a taxpayer who uses the one-year income inclusion method and to a taxpayer who uses the three-year ratable income inclusion method. The IRS also notes that recontributions of a CRD may be carried back or forward when using the three-year ratable income inclusion.
If an individual dies before the full taxable amount of the CRD has been included in gross income, then the remainder must be included for the taxable year that includes the individual’s death.
In the case of an individual receiving substantially equal periodic payments (SEPPs) from an eligible retirement plan, the receipt of a CRD from that plan will not be treated as a change in substantially equal payments merely because of the CRD, the IRS notes.
Safe Harbor for Loan Repayments
The CARES Act provides that in the case of a qualified individual with a loan from a qualified plan outstanding on or after March 27, 2020, if the due date for any repayment with respect to the loan occurs during the period beginning March 27 and ending on Dec. 31, 2020, the due date shall be delayed for one year. In addition, any subsequent repayments of the loan shall be adjusted appropriately to reflect the delay and any interest accruing during the delay, and the period of delay must be disregarded in determining the 5-year period and the term of the loan under Code Section 72(p)(2)(B) and (C).
The notice explains that the effect of section 2202(b)(2) of the CARES Act is to permit a delay in certain plan loan repayments without causing the loans to violate Code Section 72(p)(2)(B) and (C), but it does not, however, require a delay in plan loan repayments in order to satisfy the requirements. Thus, an employer is permitted to choose to allow this delay in loan repayments under its plan with respect to qualified individuals, and, if it does, there will not be a deemed distribution to those individuals under Section 72(p) due to the delay.
Under the safe harbor, a qualified employer plan will be treated as satisfying the requirements of Section 72(p) pursuant to the CARES Act if a qualified individual’s obligation to repay a plan loan is suspended under the plan for any period beginning not earlier than March 27, 2020, and ending not later than Dec. 31, 2020 (the suspension period).
The loan repayments must resume after the end of the suspension period, and the term of the loan may be extended by up to one year from the date the loan was originally due to be repaid. If a qualified plan suspends loan repayments during the suspension period, the suspension will not cause the loan to be deemed distributed even if, due solely to the suspension, the term of the loan is extended beyond five years. Interest accruing during the suspension period must be added to the remaining principal of the loan. A plan satisfies these rules if the loan is reamortized and repaid in substantially level installments over the remaining period of the loan—that is, five years from the date of the loan, assuming that the loan is not a principal residence loan, plus up to one year from the date the loan was originally due to be repaid.
If an employer chooses to permit a suspension period that is less than the maximum suspension period described above, the employer is permitted to extend the suspension period subsequently, but not beyond Dec. 31, 2020.
While Notice 2020-50 provides employers the safe harbor procedures above for implementing the suspension of loan repayments, it notes that there may be other reasonable ways to administer these rules. The notice further explains, for example, that in a plan with a suspension period beginning April 1, 2020, each repayment that becomes due during the suspension period may be delayed to April 1, 2021 (the one-year anniversary of the beginning of the suspension period). After originally scheduled repayments for January through March of 2021 are made, the outstanding balance of the loan on April 1, 2021, including the delayed repayments with interest, may be reamortized over a period that is up to one year longer than the original term of the loan.
Cancellation of Deferral Election
Under IRS regulations, a nonqualified deferred compensation plan subject to Section 409A may provide for a cancellation of a service provider’s deferral election, or such a cancellation may be made, due to an unforeseeable emergency or a hardship distribution pursuant to Treas. Reg. 1.401(k)-1(d)(3). If a service provider receives a distribution from an eligible retirement plan that constitutes a CRD, that distribution will be considered a hardship distribution. As a result, a nonqualified deferred compensation plan may provide for a cancellation of the service provider’s deferral election, or such a cancellation may be made, due to a CRD. The deferral election must be cancelled, not merely postponed or otherwise delayed, the IRS notes.
Plan Amendments
The notice advises that a plan will not be treated as failing to operate in accordance with its terms merely because the plan implements the provisions of section 2202 of the CARES Act, as long as the employer amends its plan by the last day of the first plan year beginning on or after Jan. 1, 2022.
For governmental plans, the date by which any plan amendment to reflect the CARES Act is required to be made is the last day of the first plan year beginning on or after Jan. 1, 2024. The IRS notes that under authority provided to the Treasury Secretary under the CARES Act, these dates may be extended in future guidance.
