IMPORTANT! If you received a “coronavirus-related distribution” from your 401(k) plan during 2020, don’t forget to report this on your 2020 Federal income tax return! Even though these distributions are exempt from the ten percent early withdrawal penalty, they are still taxable as regular income – although the tax generally may be spread out over a three-year period, unless you elect otherwise (as explained below).
Background. In response to the global COVID-19 pandemic, the Coronavirus Aid, Relief, and Economic Security Act of 2020 (“CARES Act”) contained a number of provisions directly relating to 401(k) retirement plans. (See our article entitled “Congress Passes CARES Act in Response to COVID-19 Crisis, Contains 401(k) Ease-of-Access and Other Provisions” for details.) Among the provisions affecting 401(k) plans were new rules permitting expanded plan loans and creating new penalty-free withdrawals known as “coronavirus-related distributions.”
Under the CARES Act, eligible individuals were permitted to withdraw penalty-free up to a total of $100,000 prior to December 31, 2020. To qualify, recipients (or their spouses) had to be diagnosed with COVID-19, and/or must have experienced adverse financial consequences (such as lost or reduced employment) due to the pandemic. Recipients of coronavirus-related distributions are permitted to repay all or any part of the amount at any time within three years of the distribution, and such repayments generally are treated as direct trustee-to-trustee transfers of rollover contributions.
Importantly, under the CARES Act, coronavirus-related distributions are treated as hardship withdrawals and are therefore not subject to the ten percent penalty tax. They are, however, subject to regular income taxation. To help soften the blow, the CARES Act generally spreads the income out over a three-year period, beginning with the 2020 tax year, unless a participant elects otherwise (see below).
Many of the CARES Act provisions, including the penalty-free 401(k) withdrawal provisions described above, were later extended by the Consolidated Appropriations Act of 2021 (“CAA”). (See our article entitled “Year-End Stimulus Act Effectively Extends Key CARES Act 401(k) Provisions” for details.) Renamed “qualified disaster distributions,” the penalty-free 401(k) withdrawals formerly known as coronavirus-related distributions are now extended through June 25, 2021.
Reporting Coronavirus-Related Distributions – Form 8915-E.
IMPORTANT! This article is intended as general information only. Nothing stated in this article is meant to constitute individual tax advice. It is highly recommended that you retain your own professional tax advisor with respect to your own unique tax situation.
Recipients who received one or more coronavirus-related distributions in 2020 should receive a Form 1099-R showing the total amount withdrawn, which in no event should exceed $100,000. The amount shown on Form 1099-R should be reported as regular income. This reporting is required even if the qualified individual later recontributed the coronavirus-related distribution to the same eligible 401(k) retirement plan in the same year. (See our article entitled “New IRS Guidance Expands Eligibility for 401(k) Plan COVID-19 Related Distributions and Loans“ for more information.)
An employer may use either Distribution Code “2” (“Early Distribution, Exception Applies”) or Distribution Code “1” (“Early Distribution, No Known Exception”) in Box 7 of Form 1099-R. Regardless of which box is checked, to ensure that the IRS recognizes the distribution as a “coronavirus-related distribution,” the taxpayer (recipient) should file Form 8915-E, “Qualified 2020 Disaster Retirement Plan Distributions and Repayments,” with his or her 2020 Federal tax return. Form 8915-E is generally used to report coronavirus-related distributions, and the form allows recipients to treat the distribution as taxable over a three-year period. It also lets recipients tell the IRS if they recontributed the distribution during 2020. For coronavirus-related distributions taken in 2020, the appropriate box in Part 1 of Form 8915-E should be checked.
IMPORTANT! Be sure to read and carefully follow the instructions to Form 8915-E before including the form with your taxes! Again, always consult with your own professional tax advisor for specific advice.
Three-Years or All at Once? As previously stated, the CARES Act permits recipients of coronavirus-related distributions to spread the income tax ratably over a three-year period. Alternatively, he or she may elect out of the default three-year ratable income inclusion arrangement, instead reporting the entire amount of the distribution as income in 2020. Importantly, this election cannot be made or changed after you have filed your 2020 Federal income tax return. Further, all coronavirus-related distributions received in 2020 must be treated consistently (in other words, either all coronavirus-related distributions must be taxed ratably over a three-year period, or all such distributions must be included in income in 2020).
If you decide to take advantage of the three-year income tax spread, you must remember to include the remainder of the taxable amounts in tax years 2021 and 2022.
EXAMPLE: Elaine receives a $30,000 distribution from her 401(k) on October 1, 2020. Elaine is a qualified individual under the CARES Act and related guidance, and elects to treat the distribution as a coronavirus-related distribution. She wishes to take advantage of the three-year ratable income inclusion for the $30,000 distribution. Elaine includes $10,000 as income on her 2020 Federal income tax return, properly indicating this on Form 8915-E. But she must also remember to include $10,000 as income on her Federal income tax returns for both 2021 and 2022!
May I Recontribute Withdrawn Amounts After I File My 2020 Taxes? If a coronavirus-related distribution is eligible for tax-free rollover treatment, the CARES Act permits the recipient to, at any time within the three-year period after the distribution, recontribute any portion of the distribution to an eligible retirement plan (such as the same 401(k) plan from which the distribution was taken).
If the recipient has already filed his or her 2020 Federal tax return (including Form 8915-E), elects to pay the full amount of the tax in one year, and then later recontributes the distribution to an eligible retirement plan, then he or she will need to file an amended Federal income tax return for the 2020, along with a revised Form 8915-E. This is necessary to report the amount of the recontribution and to reduce the recipient’s 2020 gross income by the amount of the distribution that was later recontributed.
EXAMPLE: Josh receives a $15,000 distribution from his 401(k) plan on April 30, 2020. Josh is a qualified individual under the CARES Act and related guidance, and elects to treat the distribution as a coronavirus-related distribution. Josh elects out of the three-year ratable income inclusion on Form 8915-E, and instead reports the entire $15,000 amount as income for the 2020 taxable year.
On December 31, 2022, Josh recontributes the entire $15,000 amount to his 401(k) plan. Josh will need to file an amended Federal income tax return for the 2020 tax year, including a revised Form 8915-E, to report the amount of the recontribution and to reduce his 2020 gross income by $15,000.
The information and content contained in this blog post are for general informational purposes only, and does not, and is not intended to, constitute legal advice. As always, for specific questions concerning your 401(k) retirement plan, or for help in operating your plan during the current COVID-19 crisis, please consult your own ERISA attorney or professional advisor.