The CARES Act – Plan Loans, Plan Distributions, PPP Loans, and Other Relief Should We Pause Before Acting? – Things to Consider Before Implementation
Pause and Review
As we continue to advise clients regarding the employee benefit, executive compensation, and labor and employment aspects of the recent COVID-19 related federal and state legislation, we are witnessing an understandable rush to make decisions that provide relief to employees, plan participants, and employers. As everyone struggles to interpret, comply with, and take advantage of the provisions of the COVID-19 relief programs under the new federal (and state) legislation, many of these decisions are being made before all of the relevant legal requirements and time-honored best practices considerations have been processed through proper governance channels. In addition, many of these decisions are being made before regulators have issued needed interpretative guidance.
We recommend taking a brief pause at this time to review the interplay and flexibility (and the prohibited “double-dipping” use) of these relief programs and the possible administrative and communication problems with the implementation of these relief programs.
We recommend that this review include items such as:
- A conference call to discuss all of the relief programs available to the employer, followed by a memo summarizing our specific advice for that specific employer. Such a memo might include our advice regarding eligibility for a Small Business Administration Paycheck Protection Program (PPP) loan, assistance with the calculation of the maximum PPP loan amount, and assistance with the calculation of the amount of PPP loan forgiveness.
- A review of the current provisions of the retirement and welfare benefit plans sponsored by the employer to determine whether the increased loan and distribution relief programs can, and should, be implemented.
- A review and documentation of fiduciary issues relating to adopting (or not adopting) Covid-19 relief provisions and retirement plan issues relating to investments in light of extreme market volatility.
- A review of the decisions that should be made by the employer, along with the implementation of those decisions, including a review of each plan’s loan and other administrative procedures, and a review of communications to employees and participants to be sure they are consistent with the new laws and the decisions made by the plan sponsor.
With the increased funding of the PPP that was added under the CARES Act, many of you are trying to decide (1) whether to apply for a loan under the PPP, and (2) how to use any loan proceeds in a way that takes full advantage of the loan forgiveness available under the CARES Act. Although some guidance has been issued by the SBA and the Treasury Department, we are waiting for additional guidance that may conflict with positions that you already have taken regarding these loans.
In addition, the CARES Act allows certain retirement plans to be amended to allow a COVID-19 related distribution of up to $100,000 and COVID-19 related loans of up to the lesser of $100,000 or 100% of a participant’s vested account balance. We are witnessing a rush to provide these options to affected plan participants and this rush is resulting in problems, such as the following:
- Plan sponsors are being given a very brief time to respond to third party administrators/record-keepers (TPAs) with decisions (e.g., five days) and told by the TPAs that the plan will be defaulted into some but not all of the flexibility allowed by these new rules. These default decisions may not be the options ultimately desired by the plan sponsors. Plan sponsors are allowing decisions of great magnitude to be made by their vendors.
- Communications to participants are being proposed, and then quickly distributed to participants, that do not correctly describe the new rules or the decisions desired by the plan sponsors.
- Spousal consent requirements under the current terms of the plan are being disregarded as provisions that can be ignored now and amended out of the plan later.
Some Specific Considerations
Interplay of PPP Loan Forgiveness and Delay of Employer Portion of Social Security Tax.
Some employers are considering using the provision of the CARES Act that allows the employer to delay payment of the employer portion of Social Security (SS) taxes (6.2%) for up to two years. Although an employer can do this and also take a PPP loan, the CARES Act expressly provides that the delayed payment of the employer portion of SS taxes provision of the CARES Act “shall not apply to any taxpayer if such taxpayer has had indebtedness forgiven” with respect to an PPP loan.
The IRS has taken the position that this means the employer will not be able to delay payment of any new employer portion of SS taxes that are incurred after the date the PPP loan is forgiven, and would not mean that any delayed payments prior to that date will become due immediately upon the date of loan forgiveness. The earliest date that loan forgiveness will occur for any taxpayer likely will be no earlier than late August or early September. By that time, some employees may already have exceeded the SS wage base ($137,700 for 2020) and the employer may not owe any additional employer portion of SS taxes after that date.
This may be further clarified when guidance on loan forgiveness is issued. The CARES Act requires guidance on loan forgiveness to be issued by the end of April. Employers should watch for this guidance and clarification.
Loans and Distributions to COVID-19 Affected Participants.
The CARES Act permits the amendment of certain retirement plans to allow increased loan amounts and distributions to “qualified participants”. The CARES Act defines “qualified participants” as those participants who are impacted by COVID-19 in accordance with the following: the participant or his or her spouse/dependent is diagnosed with COVID-19, or the participant experiences adverse financial consequences stemming from COVID-19 as a result of: being quarantined, furloughed, laid off, or having hours reduced; being unable to work due to lack of child care; the closing or reduction of hours of a business owned or operated by the individual; or other factors determined by the Secretary of the Treasury.
Note that this definition does not include adverse financial consequences stemming from COVID-19 as a result of the participant’s pay (but not hours, etc.) being reduced, or the participant’s spouse being quarantined, furloughed, laid off, or having hours reduced, etc. However, as described below, the plan can rely on a self-certification by the participant that the participant is a “qualified participant”, which gives the participant substantial discretion in making this self-determination. The self-certification form should follow the applicable guidelines to avoid any unnecessary risk to the plan sponsor.
Loans Increased to $100,000 or 100% of Vested Account Balance.
Under this optional change, a plan is permitted to allow loans from March 27, 2020, to September 23, 2020, of up to the lesser of $100,000 or 100% of the vested account balance to “qualified participants”. This optional change applies to any IRC 401(a) retirement plan, IRC 403(a) annuity plan, or IRC 403(b) plan (including a governmental plan). Because this is optional, a plan could increase the loan limit above the current $50,000 or 50% of the vested account balance but below the now permitted $100,000 or 100% of the vested account balance.
The plan must permit (but a participant is not required to elect) loan payments due from a “qualified participant” from March 27, 2020, through December 31, 2020, to be deferred for up to one year. This applies to any payment on any existing or new loan to a “qualified participant”. Interest continues to accrue. The delayed payments, plus interest, must be paid by the end of the loan term (using re-amortization, balloon payments or periodic payments). When determining the 5-year maximum loan term and the term of the loan, the period of March 27, 2020, through December 31, 2020, is disregarded. This delay feature will allow a “qualified participant” to take a loan, delay payments for the rest of 2020, and avoid any default until 2021 at the earliest.
Absent a self-certification from the loan recipient that he or she is a “qualified participant”, plans should be able to apply existing loan procedures to a missed payment during this period.
IRS Notice 2020-23 provides relief for any “specified time-sensitive” (1) filing or payment obligation due on or after April 1, 2020, and before July 15, 2020, or (2) action due to be performed on or after April 1, 2020, and before July 15, 2020. This relief applies to, among other things, any participant loan repayments to a qualified plan during this period. One impact of this relief is that a loan that would have been in default on any date from April 1, 2020, to July 14, 2020, will not be treated as in default until July 15, 2020.
Any plan amendments necessary to implement these changes can be adopted as late as the last day of the plan year beginning on or after January 1, 2022 (December 31, 2022, for calendar year plans). However, the loan procedures and other administrative forms and communications should be updated now to implement these changes.
COVID-19 related $100,000 distributions.
Under this optional change, plans are permitted to allow COVID-19 distributions during 2020 of up to $100,000 from the vested benefit of a “qualified participant”. Because this is optional, a plan can choose to limit the distribution to an amount that is less than $100,000. This applies to tax-qualified defined contribution (including money purchase pension) plans, tax-qualified defined benefit pension plans, 403(b) plans, IRAs, and governmental 457(b) plans. However, generally, money purchase pension plans and defined benefit pension plans may not allow an in-service distribution prior to age 59 ½, and would be required to permit (or be amended to permit) in-service distributions if this option is extended to active employees. Also, permitting a COVID-19 distribution from, and possible repayment to, a defined benefit pension plan would create significant actuarial and administrative burdens.
Any distribution on or after January 1, 2020, and before December 31, 2020, from any of these plans can qualify for treatment as a COVID-19 distribution.
Qualified participants may elect a COVID-19 distribution for up to $100,000 during 2020, as long as the participant self-certifies that the participant is a “qualified participant”.
If the distribution is made prior to age 59 ½, it is not subject to the 10% early withdrawal penalty that normally applies to distributions made to participants prior to age 59 ½.
The distributions also are not subject to mandatory 20% federal tax withholding.
In addition, although the distribution is includible in the participant's income, the participant may include the distribution in income ratably over the 2020 - 2022 tax years (with the caveat that the participant may elect to include the entire distribution in income sooner, if he or she would like to do that). The participant can also repay the distribution to the plan within the three years of the date of the distribution, and the repayment will be treated as a rollover contribution to the plan and will not count against any contribution limits for that year.
Although this change is optional, if the plan already permits distributions from the plan to the participant during 2020, it appears that the participant may be able to self-certify that he or she is a “qualified participant” and choose to treat any distributions from the plan on or after January 1, 2020, and before December 31, 2020, of up to $100,000 as a distribution that is eligible for treatment as a COVID-19 related distribution. The statute is not clear. Under prior guidance in the aftermath of Hurricane Katrina, employers were granted relief from withholding obligations for these types of situations, and we expect the IRS may grant similar relief here.
Please contact us to discuss how we can help you interpret the new relief programs, decide whether and how to implement these programs, and review the related plans, administrative forms, and employee communications to ensure they are legally sufficient and consistent with your decisions.
We wish all of you continued safety and good health, and we continue to appreciate the opportunity to be trusted advisors for you.