CARES Act & COVID-19 Insights for Retirement Plan Sponsors

As of March 2020, the COVID-19 pandemic has made its impact throughout the United States. Not only has it had a significant effect to the economy, it has changed nearly every American’s way of life. It has most definitely made its mark on your organization, which may present serious financial difficulties for your employees. Given the immediate financial impact that many individuals are facing, employers and retirement plan administrators should expect to receive inquiries from plan participants regarding access to retirement savings.

Some companies may need to take action in regards to employer contributions and even personnel in the coming days, weeks and months. The following information is aimed at preparing you for inquiries, administration and decisions you might encounter, including:

  • CARES Act Legislation
  • Impact of Furloughs
  • Partial Plan Terminations
  • Plan Investments
  • Employee Compensation
  • Employer Contributions

CARES Act Legislation

On March 27, 2020, the Coronavirus, Aid, Relief, and Economic Security (CARES) Act (the “Act”) was signed into law. A portion of the Act is intended to loosen access to retirement plan funds for individuals impacted by the COVID-19 pandemic. The following is a summary of the retirement-related provisions of the Act:

  • Coronavirus-related distribution (CRD)
    • Waiver of 10% penalty on early withdrawals for amounts up to $100,000 from a retirement plan or IRA taken between January 1, 2020 and December 31, 2020 (so can be retroactively applied to distributions taken prior to enactment of the Act)
    • CRDs are only available to a qualified individual (see “qualified individual” below)
    • Individuals are allowed pay the tax on a CRD ratably over a three year period; and
    • Individuals are allowed to repay the CRD back to the plan, tax-free, over the three years from the date of the withdrawal (not limited by plan limits). May be repaid back into the plan making allowing the withdrawal, another qualified plan or an IRA that accepts rollovers.
    • Plan sponsor has discretion whether to offer this design in their qualified plan.
    • Act does not limit a CRD to active employees (should check with service provider if they will allow CRDs to terminated participants).
  • Plan loans
    • For participant loans taken from plans between enactment of the Act and September 23, 2020, loan limits are increased  for qualified individuals (see “qualified individual” below) to the lesser of:
      • $100,000; or
      • 100% of their vested account balance.
      • Plan Sponsors may elect to set a lower limit, but cannot allow for loans that exceed these limits.
    • Qualified individuals  (see “qualified individual” below) with existing outstanding loans with a repayment due from the date of enactment of the Act through December 31, 2020 may delay loan repayments for up to one year. The plan can choose to extend the term of the loan for up to a year as well. Doing so would allow participants to avoid a financial hardship when they do resume repayment by keeping their repayment amount the same as prior to the suspension of the repayment. These loans will continue to accrue interest during the period of the suspension of repayments.
    • Plan sponsor has discretion whether to offer these design elements, with modifications (if so desired and their service provider can accommodate), in their qualified plan.
  • Qualified individual
    • Eligibility for the CRD and the adjustment to the loan limits is conditioned upon an individual meeting one of the following criteria:
      • Is diagnosed with COVID-19;
      • Whose spouse, or dependent (as defined by the Internal Revenue Code) is diagnosed with COVID-19;
      • Who experiences adverse financial consequences due to furlough, quarantine, layoff, reduction in hours, inability to work due to lack of child care due to COVID-19, or closing of business/reduction of hours by individual due to COVID-19; or
      • Factors determined by the Secretary of the Treasury
    • Importantly, the Act does not require the plan sponsor to verify whether an individual qualifies for the COVID-19 adjusted loan limits or the CRD.  The plan sponsor may rely upon a participant’s certification for eligibility.
  • Required minimum distributions
    • The Act waives RMD payments for 2020.
      • Includes RMD attributable to 2019 which was not paid by January 1, 2020;
      • Includes RMD if already made in 2020; but
      • Does not include RMD distributions that were made in 2019.
    • For RMDs that were already made in 2020 the participant may defer taxes and roll it back to the plan from which it was made or roll it to another qualified plan or IRA which accepts rollovers. Additional guidance regarding any potential impact to the 60 day rollover period is expected from the IRS.
  • Defined benefit and money purchase pension plans
    • The Act allows these plans to delay any contributions due in calendar year 2020 (including all quarterly contributions) until January 1, 2021.  The new January 1, 2021 due date applies for all quarterly contributions (they would no longer be separately due).
    • Leveraging the delayed due date would subject the employer to interest on the delayed contributions from the original due date(s) at the effective rate for the plan year that includes the date of payment.
    • Plan sponsors should expect leveraging delay should lead to higher contributions in 2021.
  • Reporting and notices
    • The Act empowers the Department of Labor to extend certain deadlines for notices – more information expected in the coming weeks.

Plans can adopt the new rules immediately. The plan will eventually need to be amended on or before the last day of the first plan year beginning on or after January 1, 2022, or for governmental plans, by the end of the 2024 plan year. These dates could be extended if prescribed by the Secretary of the Treasury.

Impact of Furloughs

Many employers have already begun to furlough employees rather than terminating them. Under IRS regulations, employees with plan loans who are placed on unpaid leave of absence may forego making loan payments during the leave of absence without triggering taxation of the loan as long as the following requirements are met:

  • The furlough period must not exceed one year.
  • The loan must be repaid by the end of the original term of the loan. The loan payments missed during the furlough period may be repaid by either continuing the original rate of repayment, with a balloon payment of the missed installments at the end of the term, or by ratably increasing the installments during the remainder of the repayment period. This requirement poses potential practical problems in the case of an employee who is furloughed near the end of the original term of the loan

Partial Plan Terminations

Companies in industries that will be particularly hard hit by the financial impact of COVID-19 should be mindful of the partial plan termination rules when considering layoffs. These rules require retirement plans to 100% vest all participants who are affected by a partial plan termination. The occurrence of a partial plan termination might occur as a result of one or a chain of group layoffs. The IRS has a presumptive threshold of 20% reduction in force as triggering a partial plan termination.  But remember that ultimately this is a facts and circumstances determination.

Plan Investments

The financial turmoil is also causing investment performance in retirement plans to sag. While experts may advise plan fiduciaries to “stay the course,” those fiduciaries should continue to monitor investment performance, ask experts questions as to prudent actions, and properly document the steps taken by the fiduciaries to monitor the situation. Fiduciaries should check their plan investment policies to determine whether any actions are required at this time, and consult with their plan financial advisors about proper actions, if any.

An attendant consideration is the timing of potential investment changes being made to a plan’s investment menu. In times of extreme volatility the danger lies in potentially being out of the market during a blackout of a day or longer if assets are moved to cash, or in the participants’ individual inability to move their assets on a given day. If a plan is considering making a fund change it is advisable to discuss the potential timing, length of blackout, and where assets are parked during blackout with the plan’s recordkeeper and make prudent decisions as are necessary. As with all things, document the decision and the reasons therefor.

Employee Compensation

Some employers are devising creative ways to design compensation structures for employees who may be partially furloughed, or part of a new unique scheme like bonusing, or attempting to create new fringe benefits. While it is 100% commendable that these employers are finding ways to help their employees, they also have to be mindful of how these new sources or designs of compensation fit into, or are excluded from, their plan’s definition of compensation. In some instances it might be a simple case of determining its included or excluded.  In other cases it might require the assistance of a tax specialist to determine what category is appropriate for the new design.

Employer Contributions

As was the case in the recession in the late 2000s, many employers are having to consider either lowering or ceasing employer contributions (matching or profit sharing) altogether. In a time where every dollar may be crucial to keeping doors open. While many employees will understand the need to eliminate this benefit, there are some different elements that need be taken into account.

If a plan has a discretionary matching contribution or discretionary profit sharing or nonelective contribution the plan sponsor may elect to stop it. As a courtesy to employees, the employer may consider providing prior notice, however it’s not legally required.

If a plan has a stated matching contribution, or profit sharing or nonelective contribution, the plan sponsor should first amend the plan document to eliminate the contribution. In this instance, they would be required to provide a summary of material modifications to participants, and they should also consider providing prior notice to participants as well.

In both the case of discretionary and stated employer contributions it is important to note that mid-year changes will likely result in additional nondiscrimination testing under Internal Revenue Code section 401(a)(4). This testing will determine if the group of employees who were eligible for such employer contributions is nondiscriminatory when compared to the group of employees who were not yet eligible and later became eligible, plus individuals hired after the contribution cessation date.

Plans that utilize the safe harbor design to be deemed to meet annual nondiscrimination tests have different considerations. The IRS clarified that an employer may stop making safe harbor contributions (either matching or nonelective contributions) if they amend their plan document, but only if the employer is (a) operating at an economic loss as defined in Code section 412(c)(2)(A); or (b) the safe harbor notice provided prior to the plan year included a statement that the plan sponsor may amend the plan during the plan year to reduce or eliminate the safe harbor contributions. The actual reduction cannot occur earlier than 30 days after all eligible employees are provided notice of the reduction/elimination. And the effective date of the reduction/elimination cannot be earlier than the date the plan was amended.