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By Jodie Norquist, CIP, CHSP
On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security (CARES) Act was signed into law as the largest relief package in U.S. history. The legislation included multiple provisions that affected retirement and health savings arrangements to help millions of Americans affected by COVID-19.
The CARES Act allowed individuals to withdraw up to $100,000 in aggregate from eligible retirement plans and IRAs without paying the 10 percent early distribution penalty tax. The distribution had to have been made on or after January 1, 2020, and before December 31, 2020, by a qualified individual, defined in both the CARES Act and expanded in definition by Notice 2020-50, as someone who was diagnosed with or otherwise adversely affected by COVID-19.
If your clients took CRDs in 2020, they still have time to make repayments to their qualified retirement plan or eligible IRA. Because a relatively small number of qualified individuals took CRDs in 2020 you may handle few CRD repayments, but their proper reporting is no less important for their infrequency.
Based on a study of retirement plans with 500 employees or less in 2020, Ascensus reported that the percentage of eligible individuals who took CRDs from their retirement plans was low. Other financial services firms also reported to the Congressional Research Office modest usage of CRDs by their clients in 2020.
Ascensus reported that 16.6 percent of employers adopted CRDs, and 4.9 percent of eligible individuals (i.e., individuals covered by plans that adopted CARES Act provisions) took CRDs. Of those, only 3.2 percent of those who took CRDs withdrew the maximum allowable amount of $100,000; most CRDs averaged $14,300 in total withdrawals at the end of 2020, according to Ascensus.
Reporting CRD Distributions
CRDs would have been reported to the IRS for the 2020 tax year by financial organizations in different ways. Like all retirement plan and IRA distributions, CRDs were reported on IRS Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit Sharing Plans, IRAs, Insurance Contracts, etc. Employers were not required to offer CRDs to plan participants. But if an employer had adopted provisions allowing CRDs, participants who were otherwise subject to the 10 percent early distribution penalty tax (other than beneficiaries) would have had their distributions reported on Form 1099-R as a code 2, Early distribution, exception applies, or code 1, Early distribution, no known exception. A qualified individual would have claimed the penalty tax exception on his individual tax return, regardless of how the Form 1099-R was coded. Inherited IRA owners were also eligible to take CRDs in 2020, and could have used code 4, Death, another penalty tax exemption; however, a CRD repayment cannot be made to an inherited IRA.
The taxpayer would have reported the CRD and any repayments, if made, on Form 8915E, Qualified 2020 Disaster Retirement Plan Distributions and Repayments. A taxpayer could have claimed CRD status even if the distribution was taken from a retirement plan whose sponsoring employer did not elect to add CRDs as a distributable event.
A CRD was not considered a modification of a series of substantially equal periodic payments as an exemption from the 10 percent early distribution penalty tax, so no retroactive penalty would have been applied to previous payments received.
Reporting CRD Repayments
You may have account owners requesting to make a CRD repayment through 2023. Qualified individuals who took CRDs in 2020 have three years, beginning on the day following the date they received the CRD, to repay the distribution to their eligible retirement plan (such as a 401(k) plan, a 403(b) plan, a governmental 457(b) plan, or an eligible IRA). These CRD amounts are taxed ratably over the three-year period unless the taxpayer elected otherwise.
At the time of this writing, the IRS has not officially released repayment reporting requirements. Unofficially, the IRS has indicated to Ascensus that financial organizations should enter the repayment amount in Box 14a, Repayments, with code “DD” (disaster distribution) in Box 14b, Code, of IRS Form 5498, IRA Contribution Information. Retirement plan participants and IRA owners report these CRD repayments on the Form 8915 series. This is how other qualified disaster distribution repayments are also reported.
2021 IRS Publication 590-B, Distributions from Individual Retirement Arrangements (IRAs), provides some CRD repayment information for taxpayers, including how to include CRDs in their taxable income each year over a three-year period, along with an example. The amount repaid reduces the amount included in income for the year of the distribution. Taxpayers may repay more than is otherwise includible income for a year. The excess amount may be carried forward to a future year or applied to a previous year in order to reduce the amount included in income for the year (if applied to a previous year, the account owner may need to file an amended return.)
If you are uncertain whether your client is eligible to make a CRD repayment, remember that it is up to the client to self-certify to the IRS that he is eligible for repayment, and to you if your organization is going to report amounts as repayments on Form 5498. It’s always a good idea to recommend that your client seek competent tax advice first.