On May 3, 2024, the IRS issued guidance in the form of “frequently asked questions” (FAQs) on disaster relief distributions and expanded loans under qualified retirement plans, including 401(k) plans, pursuant to the SECURE 2.0 Act.
Background
Traditionally, non-retirement distributions from 401(k) plans have only been permitted under limited circumstances (for example, hardship distributions). Temporary, optional special plan distributions and expanded plan loan rules were enacted in response to the COVID-19 pandemic as part of the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act (see our blog for more information), but these expired in 2020.
The SECURE 2.0 Act permanently expanded this type of relief by establishing optional rules for in-service distributions and expanded loan provisions made in response to certain Federally declared disasters occurring on or after January 26, 2021. See our blog for more information.
Generally stated, the new SECURE 2.0 Act provisions:
- Permit “qualified disaster recovery distributions” of up to $22,000 to eligible individuals, as well as the ability to repay those distributions; and
- Increase the borrowing limits for 401(k) plan loans made during a specified period following a major disaster, up to the lesser of $100,000 or 100 percent of a participant’s vested account balance, and extend the loan repayment period by one year.
More information about plan distributions and loans is available on the Dashboard
What’s in the FAQs?
Among other things, the FAQs clarify that:
- A participant is a “qualified individual” if:
- The individual’s principal residence is in the area of a “qualified disaster” (a major disaster declared by the President after December 27, 2020) at any time during the “incident period” (the period specified by FEMA as the period of a disaster); and
- The participant has sustained an economic loss (such as property damage, home displacement, or job loss) by reason of the qualified disaster;
- Qualifying distributions are those made on or after the first day of the incident period and before the date that is 180 days after the later of the first day of the incident period or the date of the disaster declaration;
- Participants generally may repay all or part of the distribution within the 3-year period beginning on the day after the date that the distribution was received;
- Qualifying distributions taken by a first-time homebuyer for the purpose of purchasing or constructing a principal residence in a qualified disaster area but not actually used for that purpose due to the disaster may be repaid to avoid taxation on the distribution;
- The repayment must be made during the period beginning on the first day of the incident period and ending on the date that is 180 days after the later of the first day of the incident period or the date of the disaster declaration;
- Ordinary income tax liability is generally spread over three years, unless the participant elects to include the entire distribution in his or her income in the year of distribution;
- Delayed loan repayments due to qualified disasters are adjusted to reflect the delay and any accrued interest; and
- Plan sponsors have the following options:
- To provide that the expanded provisions will be permanently in effect so that a Federal disaster declaration triggers the availability, or, on the other hand, that the employer must affirmatively choose to provide the relief on a case-by-case basis;
- To limit the relief to qualified disaster recovery distributions and not expanded loans, or vice versa;
- To provide for smaller qualified disaster recovery distributions or smaller expanded loans than the maximum permissible amounts; and
- Not to provide either qualified disaster recovery distributions or expanded loan provisions.
Reliance. Plan sponsors that reasonably and in good faith rely on the FAQs generally will not be subject to an underpayment penalty tax imposed by the IRS.
NOTE: This article is intended as a general overview of the IRS Q&A guidance as it affects most 401(k) plans and is not meant to offer a comprehensive analysis of the guidance or its effect on other types of qualified retirement plans and/or individual retirement accounts (IRAs). As always, be sure to consult with your own ERISA attorney or other professional advisor for individualized advice with respect to your plan’s unique situation.