The CARES Act makes it easier to tap retirement assets
for financially-strapped families during their divorce.
Divorcing spouses often face financial belt-tightening measures as they temporarily figure out how to support two households. Money worries are even worse right now thanks to coronavirus-related business shut-downs. People are being furloughed, losing hours, getting laid off, or having to take time off to care for children or a sick family member.
Thankfully, the CARES Act has made it possible to withdraw up to $200,000 from your 401(k) or similar retirement account without incurring significant financial penalties.
Typically, it’s extremely difficult to get at your money early. Think of your retirement account as a locked safe: to withdraw money from it before age 59 1/2, you have to crack multiple defenses like penalties and steep tax withholding.
But now, with the COVID-19 crisis, the safe has been opened – at least temporarily.
The CARES Act permits an individual under age 59 1/2 to withdraw up to $100,000 from an IRA or other retirement plans like a 401(k), 403(b), or 457(b) without incurring a ten percent early withdrawal penalty (retroactive to January 1, 2020). For divorcing spouses, that extra financial cushion could be a godsend.
While you will owe taxes on any withdrawal, since the original contributions were pre-tax, that amount can be spread over three years. (Usually, it’s due in same year in which you make the withdrawal.)
How can my spouse and I use this new law to access $200,000?
Barring any prohibition by federal or state governments, if you and your spouse agree, one spouse can withdraw $100,000 from the retirement account or plan and rollover another $100,000 into the second spouse’s IRA, and then he/she/they can withdraw $100,000 from his/her/their retirement account.
Proceed with caution and engage an attorney and/or CPA in this process. It will be important for you to do the rollover correctly to comply with transfer requirements and avoid penalties and taxation of the second $100,000 withdrawal.
What if you don’t have a settlement agreement yet or are uncertain about how you’ll characterize the distribution (e.g., division of assets, an advance of support, reimbursement, or a loan)?
In Washington, you can make and execute legally binding agreements during your dissolution. It is imperative that you work with your attorney to put this agreement in writing and to specify that the agreement is not comprehensive, it’s without prejudice, and that you reserve your rights and the court’s ability to resolve all related and other outstanding issues in the future.
Are there other options besides a withdrawal?
Instead of the nuclear option of early withdrawal, the CARES Act also changes rules regarding borrowing from your retirement account. In the past, you have been allowed to borrow up to 50% of your account balance, or $50,000, whichever is less. Under the CARES Act, you are permitted to borrow up to 100% of your balance, or $100,000, whichever is less. The idea is to pay yourself back in installments, without creating any big taxable events. And for outstanding 401(k) loans with payments due in 2020, the CARES Act provides that you can suspend payments for up to a year.
As with a withdrawal, it is important to put your agreement in writing, not just as to the amount, but also who is going to repay the loan, on what timeline, and what happens if the loan is not repaid. Reed Longyear’s family law attorneys are available to discuss your situation with you and chart a path forward. To schedule an appointment, send an email to email@example.com