Less than two months since Congress passed the CARES Act in response to the coronavirus pandemic, another massive economic relief bill made its way through the House. However, it still has an uncertain future in the Senate.
The HEROES (Health and Economic Recovery Omnibus Emergency Solutions) Act is a $3 trillion bill that is designed to provide assistance to state and local governments, frontline healthcare workers, student debtors, Medicare and Medicaid, farmers, renters, homeowners and essential workers.
One section of the HEROES Act addresses retirement distributions and follows in the footsteps of the CARES Act, which made significant temporary changes to retirement plan distributions.
The HEROES Act has numerous retirement-related provisions. However, many of these provisions provide funding support and relief to distressed pension plans. While these are important provisions for those specific retirement plans, they don’t have a broad impact on most Americans.
1. Waiver of Required Minimum Distributions for 2019
Perhaps a more impactful provision in the HEROES Act is the one that waives required minimum distributions (RMDs) for 2019. However, this provision is a bit of a head scratcher since the CARES Act already waived most RMDs from retirement accounts for 2020. Additionally, all 2019 RMDs would have been taken out of accounts by the end of 2019, or April 1, 2020, if it was the first year for certain individuals. So, how can something that’s already done be retroactively suspended and beneficial?
Waived 2019 RMDs would provide some relief if you forgot to take an RMD in 2019. Typically a 50% penalty tax is attached to missed RMDs. Since the HEROES Act would waive this RMD, you won’t owe it or the penalty tax that comes with it.
From a public policy perspective, I think the 2019 RMD waiver creates more challenges than it brings in relief.
2. Waiver of 60-Day Rollover Rules
A different HEROES Act provision would provide a planning opportunity if you did take an RMD in 2019 by waiving the 60-day rollover rule for 2019 and most of 2020. Waiving this rule would also help fix an issue that was created by the CARES Act.
The CARES Act waived RMDs for 2020. However, many people took out retirement plan distributions in January, February and March, only to find out in late March that 2020 RMDs were waived. Generally, you can roll over a retirement distribution to another retirement account within 60 days of the original distribution.
However, if you took a January 2020 distribution, by the time the CARES Act passed, you were outside of the 60-day rollover period to get the money back into your account. Even though RMDs were waived, many people had irrevocably taken the distribution by the time relief was passed.
The HEROES Act would allow individuals to roll over any distribution, from January 1, 2019, until December 1, 2020, that would have otherwise been a 2019 or 2020 RMD without concern of the 60-day rollover rule.
By waiving the 60-day rollover rule and waiving 2019 RMDs, the HEROES Act would allow individuals to repay their 2019 distribution in 2020.
Additionally, the HEROES Act proposes another waiver on IRA-to-IRA 60-day rollovers that would normally present a challenge. Usually, an individual is allowed only one rollover from an IRA to another or the same IRA every 12 months. If you took monthly distributions to meet your RMDs in 2019 or 2020, under the normal 60-day IRA rollover rules, you could only roll over one of them in a 12-month period to another IRA. However, the HEROES Act would suspend the once-every-12-months rule to allow numerous rollovers from 2019 and 2020.
If passed, these provisions would allow individuals to roll back any 2019 or 2020 distributions that otherwise would have been an RMD prior to the passages of the HEROES and CARES Acts up until December 1, 2020. At that point, it seems that the once-a-year rule and 60-day limit would become applicable again to any retirement account distributions taken after December 1, 2020.
3. Rollover Tax Benefits
This brings us back to an earlier point. For the most part, the 2019 tax year is done. RMDs would have been taken already, so how does the waiver of the past year’s rules help today? For an individual to benefit from the changes, they would have to pay back their distributions through a rollover and, likely, file an amended return for 2019 showing the rollover. Since taxes for 2019 are not due until July 15, 2020, if the bill passes in time and you engaged in a rollover before that date, you could include the rollover information in your tax filing. By repaying a 2019 distribution through a rollover, it would be treated as if this amount was never distributed, and therefore, not subject to taxes. This would allow some people to lower their taxable income and tax bill for 2019.
Repaying RMDs and amending tax returns wouldn’t seem to have a large impact on the economy, so as a relief provision, it is a bit limited. Mostly, this would be a useful strategy for higher net worth individuals who don’t need their RMDs and who have the liquidity to pay back their distributions. It could also benefit those who were in higher tax rates in 2019 who might want to reduce those taxes and push them out into the future.
4. Roth IRA Conversions
The 2019 RMD waiver opens up a broader conversation on tax diversification and Roth IRA conversions. If you can repay your 2019 distributions, which were previously thought to be RMDs, through a rollover, you might consider converting this amount in 2020. You would end up at the same general tax outcome, but you’ve shifted the distributions to a Roth IRA. This could be beneficial for tax diversification purposes and makes sure the amount isn’t subject to future RMDs in retirement, as Roth IRAs are not subject to RMDs while the account owner is alive.
I call the strategy of repaying 2019 distributions and converting them in 2020 to a Roth IRA the back-in-and-back-out (BIBO) Roth conversion strategy. The BIBO Roth conversion strategy should intrigue those who are considering repaying the 2019 RMDs. It would help create additional tax diversification and Roth savings that were otherwise unavailable prior the passage of the bill. However, I don’t see this having broad appeal but rather a strategy for higher net worth retirees.
Ultimately, the HEROES Act would bring forth a tremendous amount of government spending, tax breaks and a large cash infusion into the economy. It would also modify existing retirement distribution laws, but only temporarily for 2019 and 2020.
If you are someone who would be impacted by the RMD provisions, make sure you work with a financial advisor to take advantage of and understand the new rollover and RMD rules if the bill passes.