Retirement Plan Relief for Major Disasters
Sanford Stolar and Wynel Maitland
1.28.21 | Client Alert
The Consolidated Appropriations Act, 2021 (CAA) provides temporary relief for retirement distributions and loans made to “qualified individuals.” While these relief provisions are similar to the provisions in the Coronavirus Aid, Relief, and Economic Securities Act (CARES Act) for COVID-19-related distributions and loans, the new CAA provisions are limited to major disaster situations unrelated to COVID-19 as explained below.
Who is a Qualified Individual?
For this purpose, a qualified individual is a person who had a principal home within a “qualified disaster area” during the federally declared “incident period” and who suffered an economic loss as a result of the disaster.
Qualified Disaster Area
A qualified disaster area is any place where there was a major disaster declared by the President during the period beginning January 1, 2020 and ending on February 25, 2021. The disaster must have occurred between December 28, 2019 and December 27, 2020 (as determined by the Federal Emergency Management Agency “FEMA”). For each disaster area, the incident period is defined as the days specified by FEMA as to when the disaster occurred. A qualified disaster area will not include any area that a major disaster was declared only due to COVID-19. Some examples of qualified disasters declared during this period are Hurricanes Laura, Delta, Isaias, and Sally, as well as certain wildfires in California and Oregon, and flooding in various areas throughout the country. To look up all the major qualified disasters along with the incident period, visit www.fema.gov.
Tax Advantaged Withdrawals from Retirement Plans
In general, a 10% penalty applies to early distributions made to individuals prior to age of 59 ½ (with limited exceptions). The CAA provides that the 10% early distribution penalty will not apply for taxpayers who take withdrawals from eligible retirement plans (including qualified employer sponsored plans, Internal Revenue Code (IRC) Section 403(a) annuity plans, IRC Section 403(b) tax sheltered annuity plans, IRC Section 457(b) plans) and Individual Retirement Accounts (IRAs). The favorable tax treatment applies up to the amount of the qualified disaster distribution, which cannot exceed the excess of $100,000 over the amount treated as qualified distributions received by the individual for all prior tax years. However, the $100,000 limitation will be applied separately for each qualified disaster.
With respect to qualified disaster distributions made from eligible retirement plans and IRAs, unless a taxpayer elects current taxation, the income will be subject to tax ratably over a three-year period beginning with the year the distribution is received.
Additionally, as with the provisions within the CARES Act for coronavirus distributions, an individual may repay a qualified disaster distribution to a retirement plan or IRA within three years of receiving the distribution and he or she will be treated as making a tax free rollover without any income being recognized from the original distribution. If the amounts are repaid to a retirement plan or IRA within the prescribed time but after an income tax return was filed by the individual reporting the income from the distribution, an amended return will need to be filed to receive a refund for the taxes paid on the distribution amount. Rollover treatment is not available for distributions that are mandatory such as distributions required after an individual is 72 years of age (or 70 ½ if the taxpayer reached 70 ½ before January 1, 2020). It also should be noted that the repayments of the distributed amounts do not have to be made to the same retirement plan the distribution was made from.
For purposes of these provisions, a qualified disaster distribution must be made on or after the first day of the disaster and before June 25, 2021 (180 days after the enactment of CAA).
Increase in Loan Limits and Repayment from Retirement Plans
Qualified individuals also have until June 25, 2021 (180 days after the enactment of CAA) to borrow the lesser of $100,000 or 100% of the vested value of their qualified retirement plans. The limits on borrowing from a retirement plan prior to the CARES Act was the lesser of $50,000 or 50%. The CARES Act raised the limit to $100,000 on loans made from March 27, 2020 to September 22, 2020 for loans made to certain individuals.
In addition, qualified individuals have the option to delay the repayment of their outstanding loan balances that are due beginning on the first day of the incident period of the qualified disaster through 180 days after the last day of the incident period. The repayment can be delayed until the later of (1) one year after the date the payment was due or (2) until June 25, 2021 (180 days after the enactment of the CAA). Any payments due after these dates related to these loans will be adjusted to reflect the delayed due date and any interest accrued during the delay.
Recontributions of Withdrawals for Home Purchases
An individual who took a hardship distribution from a retirement plan to buy a house or build a principal residence in a qualified disaster area but did not use the amounts on account of the qualified disaster can recontribute the amount to the retirement plan in one or more payments and have it treated as a rollover contribution. The amount recontributed cannot exceed the amount distributed. To be eligible for this treatment the distribution needs to have been received during the period beginning 180 days before the first day of the incident period and ending 30 days after the incident period. The repayment must be made during the applicable period that begins one day after the incident and before June 25, 2021 (180 days after the enactment of the CAA).
For more information on this topic or any other matter related to the COVID-19 pandemic, please contact your Berdon Advisor.
This alert is for general information purposes only and is not intended, and should not be construed, as legal or tax advice.