When the COVID pandemic hit and unemployment soared in 2020, Congress passed the CARES Act, which gave special tax treatment for eligible withdrawals from retirement accounts. The usual 10% penalty on early withdrawals before age 59-1/2 is waived. The withdrawals can be treated as spreading over three years, and no income tax will be owed if the withdrawal is repaid in three years. To be eligible, the withdrawals must have taken place between January 1, 2020 and December 30, 2020 (not December 31), and the total withdrawals must not exceed $100,000. An eligible withdrawal is called a coronavirus-related distribution (CRD).
Maybe you took the offer because you had to supplement your income. Maybe you took the opportunity to move $100,000 from the expensive retirement plan through your employer to your IRA. By now you should have received a 1099-R for your retirement account withdrawal. The 1099-R itself doesn’t say anything special about it being a coronavirus-related distribution. You’ll get the special tax treatment only if you do something different on your tax return. Tax software such as TurboTax and H&R Block can do it perfectly fine. Here’s how. We’ll use these two examples:
Example A: You were affected by the COVID-19 pandemic and you withdrew $30,000 from your workplace retirement plan between January 1, 2020 and December 30, 2020. It qualifies as a coronavirus-related distribution. You’d like to spread the withdrawal on your tax return over the next three years.
Example B: Same as Example A except you already repaid the withdrawal in full by putting the money into your IRA. You should owe no tax on it.
TurboTax has a place for all 1099-R’s. You enter the 1099-R into TurboTax as usual under Federal Taxes -> Wages & Income -> IRA, 401(k), Pension Plan Withdrawals (1099-R).
Right after you enter the 1099-R, TurboTax asks you whether it was a coronavirus-related distribution. You answer it was due to COVID-19.
100% of the withdrawal was a COVID-19 distribution in our example. If you had a mix of COVID and non-COVID distribution during the year, you break it down in the software.
TurboTax checks additional eligibility, including the date of the withdrawal and how you were affected by COVID.
Now it asks you whether you repaid the withdrawal. We didn’t repay in our Example A. We repaid all of it in our Example B. Choose the option that applies to you.
If you didn’t repay, you can spread the distribution on your tax return over three years, which is the default. If you’d like to forego the spreading option and add it all to 2020, check that small box at the bottom.
After you go through the interview, you can check your tax form to see if the software did it correctly. Click on Forms on the top right and then find “Form 1040” in the left navigation pane. Scroll down to find Line 5. The gross amount shows up on Line 5a. If you chose to spread the withdrawal over three years, 1/3 of it shows up on Line 5b. If you already repaid the withdrawal in full, Line 5b should show 0.
You see this is quite straightforward in TurboTax. You don’t need a tax professional for this at all.
H&R Block Software
It takes more work to do the same in H&R Block software. We’ll use the same examples.
Enter the 1099-R you received for your withdrawal under Federal -> Income -> IRA and Pension Income (Form 1099-R). There’s nothing unusual here.
When it asks you which exception applies to your distribution, choose the last option for “no exceptions.” COVID-19 withdrawal is an exception but it’s not one of the exceptions listed here.
Although it says it looks like you’ll have a penalty, don’t freak out, because it says that coronavirus-related distributions are handled in a different part of the software later.
Continue with the rest of your interview in the software until you reach Federal -> Taxes -> Miscellaneous Taxes and Deferrals. Or you can jump ahead to that point now.
Choose ‘Yes’ when it asks you about COVID withdrawals.
Here H&R Block software asks you to read the instructions and fill out a tax form yourself. That’s lazy. The point of using tax software is that you won’t have to mess with tax forms directly.
The “Show Form” it talks about is under the “Next” button. After you click on that one, there’s another “Whole Form” button, which expands the form.
Example A – Withdrawal spread over three years
For our Example A, where you withdrew $30,000 from a workplace retirement plan and you’d like to spread it over three years, you only need to complete the parts called out in the red boxes. Check a box on the top to say it’s related to COVID. Enter the date of the earliest withdrawal and the gross withdrawal amount in Line 1, column b. If you withdrew from a pre-tax IRA, not from a workplace retirement plan, enter the date and the amount on Line 2 instead of Line 1. Click on “Hide Form” when you’re done.
Now you can check how much you’re taxed on this withdrawal. Click on the Forms button in the top menu bar and then open “Form 1040 and Schedule 1-3.” Scroll down the Line 5. Line 5b shows you’re taxed only on $10,000 instead of $30,000.
Example B – Full Repayment
For our Example B, where you withdrew $30,000 from a workplace retirement plan and you repaid it in full, in addition to filling out the same fields as in Example A, scroll down to Line 9 and Line 10. Enter the amount of your repayment on Line 10. If that represents 100% of your withdrawal, also check the box on Line 9 and be done with it. If you only made a partial repayment, leave the box in Line 9 unchecked. The difference between 1/3 of your withdrawal and your repayment will be taxable in 2020. If you repaid more than 1/3 of your withdrawal, the taxable amount in 2020 is zero.
Now you can verify you’re not taxed after you repaid all of it. Click on the Forms button in the top menu bar and then open “Form 1040 and Schedule 1-3.” Scroll down the Line 5. Line 5b shows that the taxable amount is $0.
There you have it. It’s a little more complicated in H&R Block software but it’s still not that difficult.
Say No To Management Fees
If you are paying an advisor a percentage of your assets, you are paying 5-10x too much. Learn how to find an independent advisor, pay for advice, and only the advice.