CARES Act and 401(k) Loans and Distributions FAQs
posted by Fisher 401(k) June 2, 2020
As an employer offering a 401(k) plan, you’ve probably gotten a lot of questions from your employees in recent weeks. Employees are wondering, now more than perhaps ever, what their options are when it comes to their retirement savings during a time of financial uncertainty. They may be wondering if they should save less or save more, if they should change their investment allocation, or even if they might need to take a distribution or a loan from their 401(k).
Here are some of the most frequently asked questions we’re hearing from our clients and their employees about their 401(k)—and our answers. While the situation continues to evolve, we hope this will help you navigate the 401(k) environment and keep your employees informed in light of governmental response to COVID-19.
Have 401(k) loan limits increased under the CARES Act?
The Coronavirus, Aid, Relief and Economic Security (CARES) Act has adjusted 401(k) loan limits up to $100,000 or 100% of a participant’s account balance that is vested, whichever is lower. This only applies to 401(k) plans that allow loans and will be in effect until September 23, 2020.
Has the CARES Act led to changes in 401(k) loan repayment schedules?
In an effort to ease financial burden, the CARES Act provides individuals a delay in existing loan repayment. If an individual has an outstanding loan due between March 27, 2020 and the end of the year, they can delay repayment for up to a year. This applies to qualified employees still working as well as qualified furloughed employees and those on a temporary leave of absence.
Interest on the outstanding loan will continue to accrue. Also, the plan can extend the term of the loan by up to a year to compensate for the suspension of repayment.
What’s different about 401(k) distributions under the CARES Act?
The CARES Act waives the additional 10% penalty tax on early withdrawals up to $100,000. Anyone who takes a distribution will need to pay income tax on those withdrawals.
Who qualifies for these CARES Act distributions and loan extensions?
In order to request a 401(k) loan repayment extension or withdrawal, an employee will need to verify that they qualify for one of the following reasons:
• They have been diagnosed with COVID-19
• They have a spouse dependent diagnosed with COVID-19
• They have been financially impacted by quarantine, job loss, or reduced hours due to COVID-19
• They were unable to work because of childcare needs caused by COVID-19
• They have experienced other factors determined by the Secretary of the Treasury
Note: You as the plan sponsor do not need to verify this information and may rely on the participant’s certification for eligibility.
Can my employees repay any COVID related distributions they take?
The CARES Act allows employees to repay COVID-19-related distributions back into a qualified retirement plan within a period of three years in order to avoid paying income taxes on the withdrawal. Those repayments would not be subject to normal retirement plan contribution limits. Additionally, if an employee chooses to take a withdrawal and pay income taxes rather than repay the amount, they can spread their income tax payments out over a three-year period.
Should my 401(k) plan adopt the CARES Act provisions?
The CARES Act’s provisions covering loans and distributions mean employers who don’t currently offer loans or hardship withdrawals (and whose recordkeepers aren’t automatically adopting these provisions) have a choice to make to adopt or not adopt these plan features. As with all 401(k) plan management decisions, employers need to weigh the pros and cons of adopting the CARES Act provisions in terms of participant impact. The additional flexibility to take large distributions may greatly impact your employees’ ability to save enough for retirement. And with the doors open for larger 401(k) loans with a longer repayment deadline, some employees who might otherwise have avoided taking a loan may be more likely to do so.
So, how do you evaluate whether or not those risks are worth taking? Examine the impact of COVID-19 on your business, your community, and your employees. If you are still comfortably meeting payroll and your employees still have their expected income, this increased access to retirement savings may pose more long-term challenges than short-term benefits. Alternately, if your community has been hit particularly hard by the pandemic, there could be many external factors that make these provisions ideal for your workforce. Widespread layoffs could impact the income of an employee’s partner, for example, and high infection rates could mean increased medical bills for an employee’s immediate family or elderly loved ones.
If you aren’t sure what to decide, turn to your employees directly and get a feel for their concerns. Are you hearing increased interest for flexibility on loan payments? Are employees stressed about their financial situation? Insights directly from your staff can help you judge how beneficial the CARES Act provisions could be.
Will the CARES Act 401(k) provisions mean more administrative work?
Extending the terms of existing loans and allowing for new loans via the CARES Act creates administrative work for those managing the plan. That means loan origination documents, plus the ongoing oversight of loan payments—making sure they come in on time, collecting them when they do come in, and making sure the money goes to the right place. All of that happens through payroll deduction, and any new loans that are taken or loans that are extended will add work into the future for plan administrators.
How long do I have to adopt CARES Act 401(k) provisions?
Formal plan amendments to incorporate the CARES Act provisions do not have to be made until the end of the 2022 plan year. That means you can adopt these provisions immediately in order to extend the relief they offer to your employees. As long as you offer the terms of the provisions to your employees in accordance with the CARES Act, your plan can begin operating with them in place right away. Keep in mind that the CARES Act and its 401(k) provisions are designed to provide immediate financial relief to qualifying employees, so if you plan to adopt them, the sooner, the better.
How do I incorporate or restrict the CARES Act provisions in my plan?
The adoption of CARES Act provisions is handled by your plan’s recordkeeper, and each recordkeeper has their own unique process for handling this situation. Some recordkeepers will require employers to opt in for these provisions, while others will automatically adopt them unless the employer opts out. For more clarity around your plan and how you can either adopt or restrict CARES Act 401(k) provisions, contact your 401(k) adviser or recordkeeper.
If an employee is seeking guidance to help them decide whether or not to take a distribution or a 401(k) loan, here’s some general guidance for them. Generally speaking, it’s a good idea to tap into emergency savings before halting retirement contributions or taking money out of a retirement account. If a participant is facing an inability to keep up with basic living expenses and has no emergency savings, it may make sense to temporarily stop saving for retirement as a first measure.
Saving enough money for a dignified retirement requires steady saving and a disciplined investment strategy through market ups and downs. Significant pauses in saving, or early withdrawals of any kind, can have a long-lasting impact on retirement savings.
Tools like our retirement calculator can help your participants explore the overall impact of any withdrawals or loans on their savings strategy so they have the full picture.
There is no pause button for a retirement plan. Especially in times like this, Fisher Investments 401(k) Solutions is here to work with you and your employees, addressing plan administration, investments, savings, and other topics impacting your business or financial situation. One of the benefits of being an established, independent organization is our ability to continue supporting businesses like yours, even in unique circumstances like this.
Continued Reading on the CARES Act’s impact on 401(k) plans: