COVID-Related Distributions from 401(k) Plans - How will it impact my taxes?
The coronavirus certainly threw a monkey wrench in our finances last year, didn’t it? But there was some relief, if you or a household member lost their job, were furloughed, or had their work hours cut. A special provision of the Coronavirus Aid, Relief and Economic Security (CARES) Act let you take up to $100,000 from your 401(k) or other retirement account before the end of 2020 without penalty. Here is the fine print for who qualified, and from which accounts you could have withdrawn the money:
- You, your spouse, or your dependent is tested and diagnosed with COVID-19.
- You, your spouse, or a household member suffers financial hardship as a result of being quarantined, losing your job, having your hours or pay reduced, or having a job offer rescinded or delayed. And being unable to work because of lack of childcare counts as well.
- You, your spouse, or household member closes their business or reduces business hours due to COVID-19.
- Almost all retirement plans qualify for this temporary relief from penalties on early withdrawals, including all IRAs (traditional, Roth, SEP, SIMPLE, and SARSEP IRAs), 401(k) and 403(b) plans, pension and profit-sharing plans, governmental 457(b) plans, federal Thrift Savings Plans and 403(a) plans.
If you had a retirement stash you could draw from, this provision may have been a lifesaver for you. But now that tax time is around the corner, it’s time to start thinking about the tax consequences of those withdrawals.
Wait, I thought the withdrawals were tax-free! Not quite. You don’t owe the 10% penalty for early withdrawal, but that doesn’t mean the distribution came to you scot-free. If your contributions to the retirement account were tax-deductible (what’s known as “before tax dollars”), then withdrawing the funds may have triggered tax.
But here’s the good news: it’s up to you as to how much is taxable and when that tax is due. Under the CARES Act the income from withdrawals is spread over a three-year period. So, if you received a $9,000 distribution, you would report $3,000 in income on your federal income tax return for each of 2020, 2021, and 2022. But if your income is super-low this year, you can elect to have it all taxed in 2020 at this year’s lower tax rates. Want to escape current taxation altogether? Repay the distribution within three years and you won’t owe income tax on the portion repaid.
When it's time to file your taxes, TurboTax® is here to help!
From simple to complex taxes, TurboTax has you covered. And when you need help, real experts are standing by — and can even do your taxes for you, start to finish with TurboTax Live®. Getting your biggest possible tax refund has never been easier. And as a credit union member you can save up to $15 on TurboTax. Click here to get started today!
The information in this article for general educational purposes only and not intended to provide specific advice or recommendations. Please discuss your particular circumstances with an appropriate professional before taking action.