The COVID-19 pandemic resulted in unemployment levels unseen since the Great Depression. If your household is experiencing reduced income due to job loss, furlough, or reduced hours, the immediate reaction might be to reduce spending to the bare minimum in order to “Weather the Storm.” SAVVI understands that reaction, so we built our COVID Relief Planning Assistant to offer smart, personalized advice on ways to cut back or access savings, loans, or retirement accounts while keeping long-term goals in mind. Our COVID Relief Planning Assistant is free for users who need guidance at this critical time.
After a loss or decrease in income, you might consider cutting back 401(k) (or other retirement savings plans) or health savings account contributions, but it may actually make sense to continue contributing to these plans or to shift balances, in order to optimize your outcomes during the crisis. The COVID Relief Planning Assistant’s “Weather the Storm” goal can offer more detailed guidance, but here we’ll share a couple of quick tips.
Keeping the Match
If, after your income reduction, your household still has access to an employee-sponsored retirement plan, you may have cut back or suspended contributions to free up cash flow for necessary expenses. This may mean losing tax benefits, or even “free money” from your employer via matching contributions but committed expenses like your rent or food certainly take precedence. In some cases, however, you may be able to meet your expenses and keep contributing.
The CARES Act legislation, designed to help Americans affected by the crisis, permits you, if your plan allows, to take out up to $100,000 of your retirement account balance before age 59 1/2 without the usual 10% penalty and mandatory withholding, as long as you pay back the distributions within three years. This includes IRA accounts. Current 401(k) participants can take loans of up to $100,000 or up to 100% of the account balance with no repayments due for one year. Generally speaking, these hardship withdrawals or loans should be avoided unless absolutely necessary, particularly because withdrawal may mean selling assets at a now depressed valuation. This special tax treatment is available to any individual, or their spouse, who have lost their job, been furloughed, had reduced hours, or been otherwise unable to work due to COVID-19.
With lower income may also come a lower tax bracket. Something you may wish to explore is a Roth Conversion. A Roth Conversion allows you to convert an existing deductible Individual Retirement Account (IRA) into a Roth IRA, taking an account that will be taxable in retirement, paying taxes on the converted funds, and in doing so creating a tax-free account for your retirement years. Perhaps one of the more important factors in your decision on whether or not to convert to a Roth IRA is how you will choose to pay income taxes at the time of conversion. If you’re financially capable of paying the income taxes “out of pocket,” you should consider a Roth conversion. In fact, by paying income taxes from out-of-pocket sources, you keep your IRA balance intact, therefore allowing the converted Roth IRA to fully take advantage of tax-free growth over time. If you choose to pay taxes from your IRA principal, converting may not provide the best long-term result. You may find that a lower income places you within income limits to contribute to a Roth. You may consider allocating distributed funds from one traditional plan as a contribution to a Roth IRA or perhaps using a “backdoor” Roth strategy of contributing to a traditional IRA and then converting it. Please note, the decision to convert is irrevocable. Conversion income may also impact net investment income, taxation of Social Security benefits, or Medicare premiums. Please consult a tax advisor before making a decision to convert.
Another powerful step that can help at this time is continuing to contribute to a Health Savings Account (HSA) if you have one. Since HSA funds are intended to pay for eligible medical expenses not covered by insurance, you are permitted to make tax-exempt yearly contributions up to a maximum of $3,550 for individuals and $7,100 for families in 2020. If you are age 55 or older, you may make additional contributions of $1,000 in 2020. HSA accounts are owned by the individual and are fully portable from job to job. Contributions to and withdrawals from an HSA are tax-free, provided the funds are used to pay for qualified medical expenses. Any investment earnings within the account have the potential to also grow tax free. Any funds left over in your HSA at the end of the year can remain in the account, and you can start all over with your contributions. Prior to age 65, non-medical distributions are taxed as part of gross income and are subject to a 10% penalty. After age 65, however, you are permitted to withdraw funds from an HSA for non-medical reasons and only need to pay the income tax due. Even after a job loss, you’re going to incur health expenses. Leveraging these benefits is as valuable now as prior to losing your job or your reduction in income.
While it may seem counterintuitive to save into retirement and health savings plans at this time, the short- and long-term benefits have the potential to make a meaningful difference. With help from SAVVI you'll have a plan to meet your critical monthly expenses, and by leveraging new but temporary rules provided by the CARES Act, work to create a more sustainable retirement plan for your future.
If you've been financially impacted by the Coronavirus crisis, click here to fill out our interactive questionnaire and determine whether you qualify to receive a no-cost, targeted financial plan from SAVVI. The SAVVI plan will take into account the effects of the immediate crisis to help you navigate this difficult time, as well as help you keep working toward your future retirement goals.
SAVVI Financial LLC (‘SAVVI’) is an investment advisor registered with the Securities and Exchange Commission. SAVVI does not guarantee investment results and past performance is no guarantee of future results. Information provided is for educational purposes and does not constitute investment advice, which is only provided to registered users who have a valid Investment Agreement in place with SAVVI. No information on this presentation should be construed as an offer to buy or sell any security or insurance product. SAVVI is not a certified accountant, lawyer, tax professional or HR professional. Nothing in this document may be considered as tax, accounting, employment or legal advice. Please consult with your accounting, tax, human resources or legal professionals before taking any action.