Preparing Your 2020 Taxes: CARES Act Distribution
By Dan White, Senior Benefits Attorney, ALPA Retirement & Insurance Department
The Coronavirus Aid, Relief and Economic Security (CARES) Act, which was signed into law on March 27, 2020, allowed eligible individuals to take a “coronavirus-related distribution” of up to $100,000 from their 401(k) plan on or before December 30, 2020. Individuals eligible for a coronavirus-related distribution are those who
- Were diagnosed with COVID-19,
- Had a spouse or dependent diagnosed with COVID-19, or
- Experienced adverse financial consequences as a result of being quarantined, being furloughed, or having work hours reduced due to COVID-19,
- Were unable to work due to lack of child care due to COVID-19, or
- Experienced adverse financial consequences as a result of closing or reducing hours of a business owned or operated by the pilot due to COVID-19.
Because coronavirus-related distributions are intended to assist individuals suffering from financial stress due to the pandemic, the CARES Act confers favorable tax treatment on these distributions that differ from the tax treatment that applies to other 401(k) plan distributions.
Unlike other 401(k) plan distributions, coronavirus-related distributions aren’t subject to mandatory 20 percent withholding. In addition, the 10 percent early withdrawal penalty that normally applies to a 401(k) withdrawal prior to age 59½ doesn’t apply to a coronavirus-related distribution.
Further, coronavirus-related distributions are included in gross income on a pro rata basis over three years and won’t be included in income at all if the distribution is repaid to the plan or rolled over into another eligible retirement plan or IRA within three years from the date of the distribution. If a portion of the coronavirus-related distribution is repaid or rolled over within the three-year period, then that portion won’t be included in income for tax-reporting purposes.
To illustrate how this works, assume you took a $60,000 coronavirus-related distribution in 2020. Instead of including all $60,000 as income on your 2020 tax return (due on April 15, 2021), you may include $20,000 as income for each of the years 2020, 2021, and 2022. In addition, any portion of the $60,000 distribution that you repay to your 401(k) plan, or to another eligible retirement plan or IRA, isn’t included in your gross income, as long as it’s paid within three years.
To use the simplest example, if you repaid $20,000 of the coronavirus-related distribution to your 401(k) plan in each of the years 2020, 2021, and 2022, none of the distribution is treated as income, and you don’t owe any taxes on the distribution.
To use a slightly more complicated example, if you don’t repay any portion of the $60,000 coronavirus-related distribution in 2020, repay $15,000 in 2021, and repay $20,000 in 2022, then $20,000 is included in income for 2020, $5,000 is included in income for 2021, and $0 is included in income for 2022.
One final example. Assume you don’t repay any portion of the distribution in 2020 or 2021, but repay the full $60,000 in 2022, within three years from the date of the distribution. In this case, $20,000 is initially included in income for each of the years 2020 and 2021 when you file your tax returns for those years. None of the distribution is included in income for 2022. However, since you repaid the full $60,000 within the three-year period, you can amend your 2020 and 2021 tax returns to remove the $20,000 inclusions of income for each of those years and receive a refund of the taxes paid.
This article is intended to provide general information about the federal taxation of coronavirus-related distributions and shouldn’t be treated as a substitute for individual tax advice. The federal tax rules relating to 401(k) distributions are complicated, and each pilot needs to consider their individual financial and tax situation. If you elected to take a coronavirus-related distribution in 2020, consult with your tax advisor to address your specific circumstances.