If you were impacted by coronavirus, under the CARES Act you can access funds from your retirement account without paying a penalty. This decision may or may not be the right one.
Normally, if you are under age 59-1/2 and withdraw funds from your retirement accounts, there is a 10% penalty. But that penalty can be waived under certain circumstances. Here is a broad overview:
- Individuals affected by COVID-19 can withdraw up to $100,000 from employer-sponsored retirement accounts and personal retirement accounts, or a combination of these.
- Unlike most other distributions, there will not be no mandatory tax withholdings.
- The distribution can be taxed evenly over the tax years 2020, 2021 and 2022. However, if you can pay back the amount you took out within three years, you can claim a refund on those taxes.
To withdraw from your account, you must meet certain eligibility requirements. If you, your spouse, or a dependent have been diagnosed with COVID-19, you qualify for the above benefits. However, eligibility for coronavirus-related distributions extends well beyond those who have been diagnosed.
According to an IRS notice issued on June 19, qualified individuals include anyone who has encountered “adverse financial consequences” as a result of the individual, the individual’s spouse, or a member of the individual’s household experiencing any of the following due to COVID-19:
- Being quarantined, furloughed or laid off.
- Having work hours cut.
- Having a job offer rescinded or delayed, or income (including self-employment income) reduced.
- Being unable to work because of a lack of childcare.
- Working for a business that slashed operating hours or shut down due to the outbreak.
This means that if your spouse experiences financial hardship, you may qualify for a coronavirus-related distribution from your retirement account, even if you are still employed.
As enticing as all this sounds, it is still advisable to exhaust your other financial resources first. For example, tapping into your emergency funds or other savings or loans before accessing your retirement accounts.
If you do need to withdraw 401(k) funds, keep these things in mind:
- Every dollar you take from your 401(k) or IRA today means less you will have in retirement – much less, thanks to compounding interest.
- You may have to sell investments at a bad time. We all know the phrase “buy low and sell high.” With the markets down, now may not be the time to sell.
- You still need to be mindful of taxes. While you may be eligible to escape the 10% penalty, you will still have tax to pay on any tax-deferred retirement account withdrawals.
If your cash crunch is not an emergency, hopefully you can avoid losses by riding out the storm and benefiting from the rebound. But if you decide to withdraw the money, the key to minimizing the downside is to only take out what’s absolutely necessary and pay back the amount within three years – although the sooner you can pay it back, the better.
When making major decisions involving impacts to your retirement, it’s always best to check-in with your financial advisor first. And of course, Accountability Services can help on the tax side as well.
