Cashing Out a 401(k) Due to COVID-19

September 11, 2020

Withdrawing funds from your 401(k) plan before the age of 59 ½ usually triggers a 10% penalty on the amount taken. In addition to this penalty, there are federal and state taxes that you would have to face. Note, however, that the recently passed Coronavirus Aid, Relief and Economic Security (CARES) Act has made it possible for individuals hit by the coronavirus pandemic to withdraw without facing these fees and penalties.

The CARES act includes an allocation of $2 trillion towards maintaining the economy during this COVID-19 infested time. The act also includes provisions that make access to retirement funds much easier.

 

CARES and Withdrawal Policies

Here are some of the ways in which the CARES act have impacted access to 401(k) funds:

  • People who have been affected by the Coronavirus pandemic are permitted to withdraw as much as $100,000 from employer-sponsored retirement plans. These include 401(k)s and 403(b)s and others. You can also withdraw this same amount from your individual retirement account (IRA). The withdrawal of $100,000 can be from the combination of funds from separate accounts

  • The typical 10% penalty that is usually charged when you make an early withdrawal in 2020 is completely waived.

  • The taxes that you would normally face when you cash out your 401(k) plan are not all charged to you immediately. Instead, they are spread evenly over 3 tax years (2020 to 2022). Note that if you clear these taxes within this 3-year period, you will be able to claim a refund on those taxes.

  • The rules on borrowing from your 401(k) have also been adjusted to accommodate a loan on 100% of the amount you have in the account with a cap of $100,000. The original amount that Americans were allowed to borrow was 50% of their retirement savings account balance.

  • The act has also waived the required minimum distributions from IRAs, 401(k)s, 403(b)s and other retirement plans in 2020. This is a significant benefit for individuals who are currently retired. With the current state of the economy, it would be a major loss for a retiree to sell stocks in their investments. The removal of the required minimum distributions empowers retirees to leave their funds in their retirement savings account for another year where the financial climate is likely to be much better.

 

Eligibility for Withdrawals During COVID-19

There are several factors that are considered in determining eligibility for the retirement savings account benefits under the CARES act. These include:

  • You, your spouse, or your dependent being diagnosed with COVID-19

  • Having to be quarantined, furloughed, or laid off from your job

  • Losing a job offer or having your income reduced because of the pandemic

  • Not being able to work due to the fact that you have a lack of childcare

  • Having your hours cut or your business closed because of the outbreak

 

Final Words

The CARES act has made it possible for you to use some of your retirement savings to support yourself during this pandemic. We must advise you that it still may not be the best option in this economic climate. Withdrawing now means that you will be taking money from investments that may have lower values right now due to the global pandemic. On the other hand, if you have no other way of sustaining yourself, this is a great way to keep you and your family afloat.

Rahul Iyer