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Repay Your Retirement Account for that Covid Distribution!

December 28, 2021

In 2020, did you take an "emergency" distribution from a retirement account as a result of Covid-19 economic hardship? A special rule allows you to put some or all of that money back into the retirement account. This could be a huge benefit for you in the future, so if you are eligible, you need to look into doing this ASAP.

The background: The CARES Act allowed people to take "coronavirus-related distributions" from their retirement accounts of up to $100,000. If you were affected by Covid (and the law was very lenient on what it meant by "affected"), you were eligible to do this in 2020. Normally, if you take an "early distribution" from a retirement account, you are hit with a 10% penalty on top of the usual income tax. But the CARES Act ensured that there was no 10% penalty for these emergency distributions. They were still considered taxable income, but the CARES Act also allowed taxpayers to elect to show the income in an unusual way: rather than having to show the full distribution on your 2020 taxes, you could show one-third of the amount in each of three years (2020, 2021, 2022). By spreading out the distribution over three years, you could soften the tax blow caused by taking out the money.

Now, here's the incredible part: the CARES Act allows you to return part (or all) of the distribution to your retirement account. In order to do this, you must repay the money within three years of when you took the distribution. So if you took an emergency retirement distribution in 2020, but have now found yourself on better financial footing, you absolutely need to take advantage of this! Here's why:

  • Any money you repay will be treated as never having come out of your retirement account in the first place. That means you won't owe any tax on the emergency distribution! Depending on how much you repay, you might be refunded thousands of dollars in tax you actually didn't need to pay.
  • With the money repaid, your retirement account will be larger, which means there's a larger amount to grow tax-free for future years.
  • The repayment does not count as a contribution, so you can still make your "normal" retirement contributions.

Again, you only have three years to pay back your distribution. And the other downside is that you will have to amend your taxes for any affected years, which certainly includes 2020 and may also (depending on when you actually make the repayment) include 2021 and 2022.

This IRS article provides additional information on this repayment provision. If you're interested in paying yourself back, let's talk further to develop an action plan.

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