What Can You Do About Your Cash Flow?

One major effect of the COVID-19 pandemic is its effect on the economy and the cash flow issues it is creating for small business owners of all types–including architectural firms. Should you consider borrowing from your 401(k) now?

As an architect, if you have a 401(k) plan at work and need some cash, you might be tempted to borrow or withdraw money from it. But keep in mind that the purpose of a 401(k) is to save for retirement. Take money out of your 401(k) now, and you’ll risk running out of money during retirement. But the good news is that if you do need to make a withdrawal of up to $100,000 you may not face tax penalties for withdrawing money before age 59½ due to provisions in the Coronavirus relief package. Still, if you or your staff are facing a financial emergency – and your 401(k) is your only source of available funds – borrowing or withdrawing money from your 401(k) may be your only option.

There are several other temporary changes to retirement plan rules that come into effect with the Relief Package legislation. Here are some of the highlights.

Plan loans

Your plan may allow for loans from participant accounts. This may be a better option than withdrawing money.

Generally, obtaining a 401(k) loan is easy – there’s little paperwork, and there’s no credit check.

How much can you borrow?

No matter how much you have in your 401(k) plan, you probably won’t be able to borrow the entire sum. Normally, you can’t borrow more than $50,000 or one-half of your vested plan benefits, whichever is less. (An exception applies if your account value is less than $20,000; in this case, you may be able to borrow up to $10,000, even if this is your entire balance.) The Relief Package has increased the maximum to $100,000 and increased the time allowed to pay back the loan.

What are the requirements for repaying the loan?

Typically, you have to repay money you’ve borrowed from your 401(k) within 5 years by making regular payments of principal and interest at least quarterly, often through payroll deduction. However, if you use the funds to purchase a primary residence, you may have a much longer period of time to repay the loan.

Make sure you follow to the letter the repayment requirements for your loan. If you don’t repay the loan as required, the money you borrowed will be considered a taxable distribution. If you’re under age 59½, you’ll owe a 10% federal penalty tax, as well as regular income tax on the outstanding loan balance (other than the portion that represents any after-tax or Roth contributions you’ve made to the plan).

What are the advantages of borrowing money from your 401(k)?

• You won’t pay taxes and penalties on the amount you borrow, as long as the loan is repaid on time.
• Interest rates on 401(k) plan loans must be consistent with the rates charged by banks and other commercial institutions for similar loans.
• The interest you pay on borrowed funds is generally credited to your own plan account; you pay interest to yourself, not to a bank or other lender.

What are the disadvantages of borrowing money from your 401(k)?

• If you don’t repay your plan loan when required, it will generally be treated as a taxable distribution.
• If you’re an associate or an employee of the practice and leave your employer’s service (whether voluntarily or not) and still have an outstanding balance on a plan loan, you’ll usually be required to repay the loan in full within 60 days. Otherwise, the outstanding balance will be treated as a taxable distribution, and you’ll owe a 10% penalty tax in addition to regular income taxes if you’re under age 59½.
• Loan interest is generally not tax deductible (unless the loan is secured by your principal residence).
• You’ll lose out on any tax-deferred interest that may have accrued on the borrowed funds had they remained in your 401(k).
• Loan payments are made with after-tax dollars.

Hardship withdrawals

Your 401(k) plan may have a provision that allows you to withdraw money from the plan while you’re still employed if you can demonstrate “heavy and immediate” financial need and you have no other resources you can use to meet that need (e.g., you can’t borrow from a commercial lender or from a retirement account and you have no other available savings). Many plans allow hardship withdrawals only for the following reasons but before taking any action, talk to your tax professional and your company employee benefits department,:

• To pay the medical expenses of you, your spouse, your children, your other dependents or your plan beneficiary.
• To pay the burial or funeral expenses of your parent, your spouse, your children, your other dependents or your plan beneficiary.
• To pay a maximum of 12 months’ worth of tuition and related educational expenses for post-secondary education for you, your spouse, your children, your other dependents or your plan beneficiary.
• To pay costs related to the purchase of your principal and first time residence.
• To make payments to prevent eviction from or foreclosure on your principal residence.
• To pay expenses for the repair of damage to your principal residence after certain casualty losses.

Note: You may also be allowed to withdraw funds to pay income tax and/or penalties on the hardship withdrawal itself, if these are due.

Your employer will generally require that you submit your request and verification for a hardship withdrawal in writing.

As noted in this article, in addition to the reasons stated above, the Relief Package will allow withdrawal of up to $100,000 without penalty for Coronavirus related need according to the IRS questions and answers about Coronavirus-related relief for retirement plans and IRAs.

How much can you withdraw?

Generally, you can’t withdraw more than the total amount you’ve contributed to the plan, minus the amount of any previous hardship withdrawals you’ve made. In some cases, though, you may be able to withdraw the earnings on contributions you’ve made. Check with your plan administrator for more information on the rules that apply to withdrawals from your 401(k) plan.

What are the advantages of withdrawing money from your 401(k) in cases of hardship?

The option to take a hardship withdrawal can come in very handy if you really need money and you have no other assets to draw on, and your plan does not allow loans (or if you can’t afford to make loan payments).

What are the disadvantages of withdrawing money from your 401(k) in cases of hardship?

• Taking a hardship withdrawal will reduce the size of your retirement nest egg, and the funds you withdraw will no longer grow tax deferred.
• Hardship withdrawals are generally subject to federal (and possibly state) income tax. A 10% federal penalty tax may also apply if you’re under age 59½. As mentioned above, the penalty tax may be lifted for Coronavirus related withdrawal. (If you make a hardship withdrawal of your Roth 401(k) contributions, only the portion of the withdrawal representing earnings will be subject to tax and penalties.)
• You may not be able to contribute to your 401(k) plan for 6 months following a hardship distribution.

Minimum distribution waiver related to the Relief Package

According to the IRS’ explanation of Coronavirus Relief for Retirement Plans and IRAs, the Relief Package will allow for a waiver of minimum distribution for 2020. This will allow individuals taking minimum distributions to waive liquidating assets at low share value caused by the virus-related stock market losses.

Before taking any action

Once the Relief package is signed it will take some time to understand all the impacts to retirement plan rules, as well as time for administrators to make the necessary changes to accommodate the changes. Please work with your plan administrator, accountant and lawyer before taking any action.

The AIA Trust is here to help

The AIA Trust offers retirement savings plans and distribution options through Equitable to assist you in achieving your retirement goals. Plans can be established for one-person firms (or components)—or for many employees—utilizing a variety of retirement savings and distribution vehicles. Equitable can assist you toward achieving your goals based on more than 51* years of experience working with association members and over 25 years with AIA architects. Equitable can help you review your options and offer you choices that can alleviate the burden of establishing and managing a retirement savings plan. It’s one of the ways that the AIA Trust makes it easier for you to focus on doing what you do best: architecture.

Please call (800) 523 1125 to speak with a retirement program specialist or learn how you can start saving.

The AIA Trust endorses retirement savings and distribution plan products through Equitable that can assist you toward achieving your retirement goals. With over 50 years of experience working with AIA members, Equitable retirement program specialists are licensed to provide the knowledge and resources to assist you and your team evaluate the plan options best suited for your personal retirement goals. In addition, Equitable provides a full range of recordkeeping and plan administration services to complement its suite of retirement product offerings for AIA members and employees. For additional information on these AIA-endorsed member benefits, please call Equitable at (800) 523 1125 or visit  mrp.equitable.com/ps/partners/partner-aia.cfm.

All rights reserved. This article is prepared and published by Broadridge Investor Communication Solutions, Inc. Copyright 2020 to help keep you up to date on the issues that may affect your financial well-being.

This article has been written for general information purposes only. This material does not constitute an offer or solicitation of any kind and is not intended, and should not be relied upon, as investment, tax, legal, or financial advice or services.

The Members Retirement Program (contract form #6059) is funded by a group variable annuity contract issued and distributed by Equitable Financial Life Insurance Company (Equitable Financial), 1290 Avenue of the Americas, New York, NY 10104. Equitable Financial does not provide tax or legal advice. You should consult with your attorney and/or tax advisor before purchasing a contract.

* This reference applies exclusively to Equitable Life Insurance Company.

Equitable is the brand name of the retirement and protection subsidiaries of Equitable Holdings, Inc., including Equitable Financial  Life Insurance Company (NY, NY); Equitable Financial Life Insurance Company of America, an AZ stock company with main administrative headquarters in Jersey City, NJ; and Equitable Distributors, LLC. Equitable Advisors is the brand name of Equitable Advisors, LLC (member FINRA, SIPC) (Equitable Financial Advisors in MI & TN).  The obligations of Equitable Financial and Equitable America are backed solely by their claims-paying abilities.

GE-3457661 (2/21) (Exp. 2/23)

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