In the midst of the Coronavirus pandemic small businesses are struggling financially. The government is rolling out relief and some of it has helped and more is on the way. The relief bills should be looked at closely including the ones for small business and individuals. One of the proposed sections for individuals may offer a tax loophole to reduce your taxes without locking up your money in the short term.
What is it?
In the Republican proposal titled the, "Coronavirus Aid, Relief, and Economic Security Act," or the "CARES Act," lists various acts for relief for businesses and individuals. Most of the small business relief acts listed in the CARES Act proposal are in the form of loans. However, there may be a tax loophole to help reduce a small businesses 2019 taxable income while still gaining access to those retirement dollars relatively quickly.
How does it work?
In section 2103 of the "Rebates and other individual proposals," may allow you to access up to $100,000 from your retirement accounts. These retirement accounts are slated as both IRA and qualified plans such as 401k's, SEP IRA's, SIMPLE IRA's and more. The special distribution from your retirement accounts are followed by a repayment time frame of up to three years.
Cashing out your retirement account doesn't seem like a great idea but the strategy below outlines how you can use this provision to lower your taxes and boost your cash on hand.
What's the small business strategy?
There are two ways to get this strategy to work. The first way you will need to have cash on hand and a retirement plan that you can still make contributions. The second way doesn't require any cash on hand but you'll need to have a Roth IRA that is already funded.
I'll start with the first strategy where you have cash on hand and you can make additional retirement plan contributions. The cash on hand is money in your checking or savings account which you can take to make additional contributions into a retirement plan. Since you may be able to take up to $100,000 out of your retirement account if you meet the proposed Bill's requirements for an early distribution then you could simply contribute for 2019, lower your taxes and take the contributions out. The short term benefit is a reduced tax liability and possibly a tax refund.
The second strategy requires that you have a Roth IRA already funded. The contributions to a Roth IRA can be removed at any time regardless of age -- this is an existing rule. If you remove these contributions and put them into a pre-tax retirement account such as a Traditional IRA you can reduce your tax liability for 2019. In this instance, you would reduce your taxable income and if you're already getting a refund, you would get a bigger one now.
The Roth IRA strategy mentioned above can work regardless of the proposed provisions going into effect. If you convert the pre-tax money back to a Roth in a lower income year you can also benefit by paying less in taxes then too.
When can I access my retirement account?
The proposal is still not signed into law so the above strategy is not in effect just yet. Similar legislation has been enacted in the last regarding access to retirement accounts during a disaster. Since the 2019 tax season has been extended it may open up this tax loophole strategy.