As the year that is 2020 begins to wind down, it can be a good time to use your IRA or 401(k) as insurance against a recession.
- CARES Act allows for special options in 2020
- Taking a distribution now can save you in the future event of a job loss
- Use your funds or return as desired
Ongoing Crisis Management
The United States is going through some pain at the moment, with COVID-19 still raging and actually getting worse again, with no vaccine available and treatment seriously divided between the haves and the have-nots. There’s also some degree of civil unrest in cities across the nation, with white supremacy trying to reestablish itself publicly and politically.
If you’re suffering the effects of COVID-19 and need to use your retirement funds to stave off dread in these unprecedented times, you have some options. Under the CARES Act, a retirement account holder is eligible to take up to $100,000 tax payable over 3 years with no penalties, and no tax if paid back in 3 years.
In other words, the retirement account holder has three years to decide what he or she wants to do with the distribution. If the account holder returns all the funds taken within three years to a retirement account, there would be no tax or penalty on the amounts taken. So essentially, what the retirement account holder has received is a tax-free, penalty-free loan.
This means that account holders are able to use the distribution option and 3 year waiting period to see if funds will be needed due to the loss of job or income due to a recession that come about. You can invest distribution amount and if you do not need funds can return them within 3 years and pay no tax or penalty
How Can You Use Your IRA or 401(k) as Insurance Against a Recession?
You can use your IRA or 401(k) as insurance against a recession in a number of ways. It can act as a good, solid security blanket or insurance policy to get tax-free and penalty-free use of those funds. Distributions must be taken prior to December 31, 2020.
This is especially true for a 401(k) plan where without a triggering event you would not be able to gain access to the funds. A plan triggering event is normally when you turn age 59 1/2, leave your job, or the company terminates the plan. Under the CARES Act, you can get tax-free and penalty-free access to up to $100,000 without a plan triggering event and you have 3 years to decide if you need to use the funds.
Things to Consider
Note though, that if you are considering taking a CARES Act withdrawal from your IRA, there are a number of items to consider. Firs, one must show that they have been impacted by the COVID-19 pandemic. This includes an individual who is diagnosed with SRS-COV-2 or COVID-19 by a test approved by the CDC; or whose spouse or dependent is diagnosed with one of the two diseases, or a participant or business owner who experiences adverse financial consequences as a result of being quarantined, furloughed, having reduced hours, or cannot work due to unavailability of childcare.
The IRA holder or plan participant has the burden of proof. Most IRA custodians or 401(k) plan administrators will ask for a letter certifying qualification. There is not much guidance on what IRA custodian or plan administrators will request, but you should expect to have to prove that you satisfy the requirement.
While it is not expected that many IRA custodians will push back against such a request, however, it is vital that the IRA holder clearly articulate that the withdrawal should be reported as a COVID-19 withdrawal under the CARES Act. There has been more reported push back from the 401(k) employer plan administrators who, in some cases, are not allowing for such CARES Act withdrawals.
This has not really been an ideal year on the whole, but there are options and opportunities available if you know where to look. If you are able to satisfy the COVID-19 requirement under the CARES Act, then taking up to $100,000 tax-free and penalty-free distribution prior to December 31, 2020 may be your best insurance against a job loss or lost income.