cares act taxes

How the CARES Act May Affect Your 2020 Taxes

Now that you’ve ushered in the new year and closed and padlocked the door on 2020, it’s time to get a jumpstart on preparing your 2020 taxes. Because, like so many things over the past year, some of the tax guidelines changed as well.

Much of the attention of the $2.2 trillion, Coronavirus Aid, Relief, and Economic Security (CARES) Act, which was signed by President Trump on March 27, 2020, in response to the financial impact of the COVID-19 pandemic, has been focused on the small business loan program known as the Paycheck Protection Program. However, there are several provisions in the Act that could directly or indirectly impact your 2020 individual tax return.

Provisions of the CARES Act that could affect your individual tax return

Stimulus Payments: The economic impact payments taxpayers received in 2020, based on 2019 tax returns (or 2018 returns if 2019 weren’t filed yet), are technically an advance payment of a tax credit for 2020. Because of this, these payments are not considered income and therefore are not taxable nor are they used to determine eligibility for premium tax credits for Affordable Care Act marketplace coverage or Medicaid.

If you were entitled to stimulus payments in 2020, and didn’t receive them, or only received partial amounts, you can get these credits when you file your tax return. In addition, if you received stimulus payments that were more than you were actually allowed, based on your actual 2020 income, you will not have to pay the credit overage back.

Unemployment Benefits: One of the most popular benefits of the CARES Act was the $600-per-week federal boost to state unemployment benefits. But many taxpayers may have forgotten that unemployment benefits are subject to federal income tax. The extra $600-per-week you may have received is no exception. If you didn’t opt to have the taxes withheld, hopefully, you put aside some of the money you received in preparation for your 2020 tax return.

The unemployment amounts available under the Act could have a significant impact on family income and could also affect eligibility for premium tax credits for the Affordable Care Act marketplace coverage and Medicaid. Generally, unemployment benefits are considered family income in determining eligibility for these programs. Consequently, the $600-per-week CARES Act supplement will also be considered as income for determining eligibility for premium tax credits for the marketplace coverage. However, it will not be considered as income in determining Medicaid eligibility.

Early Distribution Penalty Waiver: Generally, if you withdraw money from your retirement plan before 59 ½, there is a 10% tax penalty. However, the CARES Act waived this penalty for 2020 if an individual, or their spouse or dependent was diagnosed with Coronavirus through a CDC-approved test, or were economically harmed by it as the result of a quarantine, business closure, layoff or a reduction in work hours. Under the CARES Act, an affected individual can withdraw up to $100,000 from their qualified IRA, pension plan, or 401(k) plan in 2020, without incurring the early distribution penalty. However, regular income tax will still be assessed on the distribution. Under the CARES Act, this tax payment can be spread evenly over three years.

However, any withdrawals can be recontributed to a qualified retirement plan at any time over the three-year period to eliminate the otherwise reportable taxable income. The recontributed funds do not count toward annual contribution levels.

In addition, the CARES Act allowed you to borrow up to 100% of the vested balance or $100,000, whichever is less, from a qualified retirement plan. This option was only available for loans taken out during the six-month period from March 27, 2020 to September 23, 2020. These loans must be paid back within 5 years. However, the CARES Act allowed borrowers to forgo repayment in 2020 and begin the 5-year repayment plan in 2021. The loan, however, still accrued interest in 2020.

Required Minimum Contributions: The CARES Act waived minimum distributions that were required to be paid in 2020, including those that would have been required by April 1, if an individual turned 70 ½ in 2019. If the required minimum distribution (RMD) for 2020 was already paid, you can recontribute, within 60 days of the receipt of the original distribution, to a qualified plan.

If you opted not to take your 2020 RMDs, you’ve positively impacted your 2020 taxes in three ways. You don’t pay taxes on your RMD, you’ve reduced the risk of the RMD pushing you into a higher tax bracket, and you have the opportunity to ride out the market volatility that may have affected your retirement portfolio during the COVID pandemic.

Charitable Deduction Rules: In an effort to help 501(c)(3) qualified organizations affected by decreased contributions, due to the pandemic, the CARES Act removed the income-related cap on charitable contributions for 2020.

The CARES Act gave a new above-the-line charitable contribution deduction of up to $300 to taxpayers who do not itemize their deductions. For individual taxpayers who itemize deductions, the CARES Act temporarily removes the 60% cap and allows you to deduct up to 100% of your AGI in 2020 after taking into account other contributions subject to charitable contributions limits.

With the many changes to the tax guidelines in 2020, due to several of the CARES Act provisions, your 2020 tax return will most likely be more complicated than in the past. So, if you don’t normally use a professional tax preparer for your returns, this may be a good time to start.

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