The CARES Act and You: Coronavirus Relief is Coming
A note from us: This newsletter is one of the longest we have ever sent out, but it is packed with important information that directly relates to each one of you. Please take the time to review it when you can, feel free to forward it to people who might benefit from this information, and we look forward to answering any clarifying questions we can from you or your loved ones.
The House has just passed the Senate-created CARES Act, known as the Coronavirus Aid, Relief, and Economic Security Act, and it should be signed into law today. This is a $2.2 trillion stimulus package, the largest ever enacted in the U.S., and includes many different provisions applicable to many different people.
The bill is so large and far-reaching that even for us, it’s information overload. As a result, this is the first of several newsletters we will send out over the next week. Upcoming newsletters will dig into its programs from the perspective of these groups: small business owners, self-employed individuals and independent contractors (1099 workers); student loan borrowers and cosigners; and Medicare recipients and RMD takers (including inherited IRA owners). Our hope is that you will be able to identify those newsletters that apply to you, so that you can concentrate on what matters, and you can feel free to ignore the others.
However, this newsletter goes over the two main provisions that apply to just about everyone, and so we find it incredibly important and hope you’ll keep it to reference it over the coming weeks and months.
Stimulus checks (known as Recovery Rebates) will be going to every American, and we will answer these questions:
How can I determine how much I will get?
How will the funds get to me and when will they arrive?
Should I file my 2019 taxes now if I haven’t already, or wait until after I get my stimulus check? Which will maximize my benefit?
How will the taxes work on this?
Restrictions on taking funds out of your retirement funds have been loosened, particular for folks under 59 1/2, and we will address:
What options do I have before I take funds out?
In what situations can I withdraw funds without paying a penalty?
How do taxes get applied?
Can I put that money back in my account later?
How are my options for a 401(k) loan different now?
Let’s get started!
Stimulus Checks aka Recovery Rebates
90% of Americans are expected to receive checks from the government. This is a refundable income tax credit – basically, the government is giving you money that they will then write off on your taxes when you file for 2020.
How much will I get?
Married taxpayers filing jointly with $150,000 or less of income on their most recent tax return will get $1,200 per person. Single filers with $75,000 or less will get $1,200. Each child under the age of 17 will increase this amount by $500.
If a taxpayer has more than that income level, their check starts to phase out. Every $100 of income they have over the limit, they get $5 less ($1,200, minus their extra income multiplied by 5% or .05). This amount also applies to credits for their children. The chart below, from NPR, illustrates this very well.
Example: Jodi has a 15-year-old son, Caleb. In 2018, she made $80,000. She just filed her 2019 taxes and made $70,000. Using the most recent tax return they have, the government sees she has less than $75,000 in income and will send her $1,200 for herself, plus $500 for Caleb.
Example: Martin and Joan have a 9-year-old daughter, Abigail. In 2018, they made $160,000. They haven’t filed their 2019 taxes yet, but made $200,000. Using the most recent filed tax return, the government sees that Martin and Joan have over $150,000 in income. As a result, their checks will be pro-rated.
$160,000 is $10,000 over the phase-out. Martin and Joan would otherwise be eligible to receive $2,900 = $1,200 + $1,200 + $500, but that will lower by 5% of the $10,000 they’re over the cap, or $500. They will instead receive $2,400.
Now, let’s quickly address the elephant in the room: if you have had great income over the past few years but have lost your job, or revenue in your business is hugely down, this doesn’t really help you! You may find yourself almost entirely phased out of a credit due to your past income record. In this case, we urge you to start by looking into the expanded unemployment insurance provision, which has now extended unemployment benefits to self-employed workers and independent contractors. Our perspective on that will be coming in a newsletter next week, but you can begin to research it now.
How will the funds get to me and when will they arrive?
First things first: the Act requires that payments be made “as soon as possible,” but the Treasury Department is indicating this will probably not occur until May.
If you receive Social Security via direct deposit, funds will go straight into that bank account.
If you used direct deposit to get your tax refund on your most recent filed tax return, the IRS will start by trying to send funds to that bank.
If you did not use direct deposit, or if that account is now closed, they will send a check to your most recent address on file.
There are many questions associated with this, like what to do if you moved since you last filed. The IRS will provide a phone number where individuals can report issues and get them fixed. That system has not been set up yet.
Should I file my 2019 taxes now if I haven’t yet, or wait until after I get my stimulus check? Which will maximize my benefit?
Look at the example above using Martin and Joan. They got lucky because they hadn’t yet filed their 2019 taxes, and since they made more in 2019 than in 2018, they would have gotten less money.
In general, if you made more in 2019 than in 2018, we would advise you to wait to file your taxes until closer to the new federal deadline of July 15th, as long as your state does not require taxes to be filed sooner, because you will likely get more money.
If you had a child in 2019 and will be reporting a new dependent on your taxes, it is in general a good idea to file now because you’ll bump up your maximum check by another $500.
If you got married or divorced in 2019, we recommend doing a quick calculation of your expected amounts based on 2018 and 2019 income. If the 2018 amount is greater, it may behoove you to wait to file. If 2019 is greater, you should probably go ahead and file now.
How will the taxes work on this?
Most people who have been affected by coronavirus are going to have less income in 2020 than they did in 2018 or 2019, but some people will have more! Grocery store workers, manufacturers of needed medical supplies, and some government workers who have plenty of overtime will actually increase their income.
All the calculations we did above are based on past years of income, but if you have much higher income in 2020, you will still get to keep all the funds you receive with no “clawback” on the extra rebate when you file for 2020.
Taking Income from Retirement Funds
This is a tough subject for us, because usually we recommend against withdrawing from retirement funds given other viable options. However, this is by no means a usual situation, and some people are facing prolonged unemployment, so we want to make sure you have all the facts you need to make decisions about this.
What other options do I have before I take funds out?
We urge you to look into the expanded unemployment insurance provision that just passed. It extends unemployment benefits to self-employed workers and independent contractors for the first time, so if you previously thought you were not eligible, you may be now.
In addition, we want you to be aware that in most states, having your hours cut significantly qualifies you for at least partial unemployment benefits, despite what your work may tell you. State systems are currently experiencing their highest levels of filing ever, but if you can get through on the phone you can discuss your particular situation with a representative.
We also want to mention that if you or your spouse is still employed, a 401(k) loan may be more to your benefit than a distribution. See the last question below for more details.
Lastly, if you expect to be in a high tax bracket for 2020 even given the current situation, and you have after-tax investments with us, please contact us to see if it may be more tax-efficient to draw funds from there.
In what situations can I withdraw funds without paying a penalty?
Typically, people under 59 ½ have to pay federal and state income tax, plus a 10% penalty. The CARES Act allows for that penalty to be waived, and have instructed the IRS to exempt these situations and interpret them very liberally. You may want to keep some documentation to ensure you can prove you were affected “enough” to qualify, but indications are that there will be a broad range of scenarios that will qualify and they will be generous in their accounting.
You have been diagnosed with COVID-19
Your spouse or dependent (including family member who you claim on your taxes) has been diagnosed with COVID-19
You have been furloughed, laid off, had work hours reduced, or have had to quarantine due to the disease
You are unable to work because you lack childcare as a result of the disease
You own a business that has closed or operated under reduced hours because of the disease
You are otherwise strongly affected – please discuss with your CPA or tax preparer if you fall into a virus-affected situation not listed here
How do taxes get applied?
“Coronavirus-Related Distributions,” as they are called, have a wide range of benefits that are not just limited to the 10% penalty waiver
Any income you take from a retirement account, such as a 401(k) or IRA, as a Coronavirus-Related Distribution (we’ll call it CRD from now on) will be spread by default over your next three tax returns (2020, 2021, 2022). That may not be how you want to do it, though! Let’s look at an example.
Example: Margaret takes a $12,000 distribution from her 401(k) to help make up the gap in her unemployment benefits while she’s out of work. By default, she’ll add $4,000 each to her taxable income for 2020, 2021, and 2022. However, her income for 2020 ends up being $45,000, and then in 2021 and 2022 climbs back to $70,000. By splitting it over the next few years, she’s paying more in taxes than she could by claiming it all on her 2020 return.
Can I put that money back in my account later?
Starting the day after you receive your distribution, you will have up to three years to repay any portion of this distribution back into a retirement account (a 401(k), IRA, or other pre-tax account). It can be paid back with one contribution or multiple contributions over time. You may need to amend a tax return or two to get these funds back, but it may well be worth it.
Example: Joshua had to close his furniture store due to the coronavirus and takes $15,000 out on April 15, 2020 to help his business stay afloat and pay his own living expenses. He decides to pay the taxes on his $15,000 all in 2020. However, in 2021 he pays back $8,000. He is able to amend his 2020 tax return to say he only had $7,000 back in extra income and get a refund. (In 2022, if he pays back another $3,000, he will be able to amend a second time and get more money back).
How are my options for a 401(k) loan different now?
If you are still currently employed but need to take funds from your 401(k) account, for example to supplement your spouse’s unemployment benefits, rather than taking a distribution it may be simply best to take a 401(k) loan if your plan allows for them.
401(k) loans taken due to coronavirus have special provisions. The IRS is waiving its requirement that you only take the maximum of half your account or 50% (whichever is less). You can take up to 100% of your total vested account. In addition, the IRS has bumped up the maximum loan amount to $100,000.
Most importantly, 401(k) loans get paid back into your 401(k) account out of your paycheck at a set amount each pay period – you pay yourself back. However, for any loan you take in 2020 due to coronavirus, you can delay any payments that would be required in 2020 for up to one year. This means that if needed, you can avoid paying it back now, and just start with extra payments in 2021 to fulfill the terms.
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These are just two main provisions of the many, many different programs enacted through the CARES Act. As we mentioned at the top of our newsletter, we will have several other newsletters coming out next week that will target specific groups, and we hope that if you know someone in those situations, you’ll be able to forward them so this information gets disseminated widely. We know all too well that in this day and age, it’s so easy for things to get misinterpreted or distorted, and we are hoping that our diligent research from trusted sources can be valuable to you and your loved ones during this difficult time.
Please feel free to reach out to us directly with any questions that may come up related to the contents of this letter. Our goal is to make sure we communicate this information as clearly as possible, but there is a lot of it to share, and as we have learned over many years, everyone lives their own life and often needs their own advice.