25 May I’m unemployed. What happens if I take money from my 401(k)?
Q. I’ve waited four weeks to hear back from N.J. unemployment, and at this point, there’s been no response. I need finances to survive. I have a 401(k) from an old employer, not the one who laid me off. The 10% early withdrawal penalty is waived for those under the age of eligibility to access their money penalty-free. Would my unemployment benefits be affected, reduced or terminated if I take a 401(k) distribution?
— Out of work
A. We’re sorry you’re waiting so long for your unemployment benefits to be approved.
Unemployment benefits are not need-based, so distributions from a retirement plan or IRA or from any source, as long as it’s not linked to employment, would not disqualify you from collecting, said Howard Hook, a certified financial planner and certified public accountant with EKS Associates in Princeton.
As you mention, the 10% early withdrawal penalty is waived, but only for people “affected” by the virus, Hook said.
“The IRS lists a specific set of criteria for the distribution to be considered a `coronavirus related distribution’ and thus subject to the waiver of the 10% penalty,” Hook said.
To be considered an eligible distribution, the distribution must not exceed $100,000 and be made between Jan. 1 and Dec. 31, 2020 by an individual:
1. who is diagnosed with the virus by a test approved by the Centers for Disease Control and Prevention; or
2. whose spouse or dependent is diagnosed with such virus or disease by such a test; or
3. who experiences adverse financial consequences as a result of being quarantined, being furloughed or laid off or having work hours reduced due to the virus.
Someone unable to work due to lack of child care due to the virus or had to close or reduce hours of a business they own.
“The interesting part of this provision of the CARES Act is the taxation of the distribution,” Hook said. “Normally, distributions that avoid the early withdrawal penalty do not escape taxation in the year the distribution is taken.”
However, he said, if the distribution qualifies as a “coronavirus related distribution,” the taxpayer can elect to pay the tax over three tax years, from 2020 to 2022.
“The amount distributed can also be repaid to the retirement account within three years of the date the distribution is taken,” Hook said. “If this is done, then no tax is paid at all on the distribution.”
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This story was originally published on May 24, 2020.
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