Cares Act withdrawal 403b with taxes taken out

[FourDurands]

I’m curious what the tax ramifications will be from withdrawing 80k from a 403b using the CARES act? Technically we received 69,999 with 10,001 taken out for taxes. But I’m still really nervous about additional tax ramifications since it was so much money. We are married filing joint with 2 kids and last year had 91k income. Anyone have an idea of what our taxes would be or what the tax penalty would be? Thanks in advance! 

[dmertz]

If you treat all of the $90,000 as CRD on Form 8915-E, none of the $80,000 will be subject to any early-distribution penalty and and you can choose to include $26,667 of the income in 2020, $26,667 in 2021 and $26,666 in 2022.  The entire $10,001 withheld for taxes will be applied to your 2020 tax return liability and you can either have the excess withholding refunded of have the IRS apply it toward your 2021 tax liability and it will be treated as a 1st quarter estimated tax payment for 2021.  If you choose to have it refunded and you do not have a sufficient amount withheld for taxes from your 2021 income, you might owe a tax underpayment penalty with your 2021 tax return.

$10,001 of tax withholding would typically be sufficient to cover the additional tax liability resulting from $26,667 of income added to your 2020 income, but it really depends on your overall tax situation.  If most of the $10,001 of withholding goes to covering your 2020 tax liability, you'll likely want to make an estimated tax payment for the 1st quarter of 2021 and another for the 1st quarter of 2022 to cover the additional tax liability in those years resulting from the inclusion of $26,667 of the CRD income in each of those years.

[FourDurands]

I was hoping that the $10,001 would cover the entire tax liability for the 80k withdrawal for the 2020 year. I think I’d rather not break it up into 3 years. We withdrew 80k from the 403b and we earned 91k from working to give you an idea of what our total income is like. We had a refund last year of about 4K just from me being nervous about taxes and having more taken out of our paychecks to be safe. 

[dmertz · Accepted solution]

I corrected the dollar amounts in my previous reply to reflect an $80,000 distribution rather than a $90,000 distribution.

I would expect most of the $80,000 distribution to fall in the 22% tax bracket for married filing jointly, with maybe somewhere between 15% and 20% of it falling in the 12% tax bracket.  That would make the addition to your tax liability around $16,000.  If so and your refund would otherwise have been the same as last year, around $4,000, that plus $10,001 of withholding on the 403(b) distribution would leave you about $2,000 short, but you need to prepare a simulated tax return to be sure, taking into account all of the details that depend on your AGI which will be nearly double was it otherwise would have been.  Your $10,001 of tax withholding was only 12.5% of the distribution, so it seems certain that the withholding by itself would not cover the additional tax liability generated by the $80,000 distribution.

If your other income remains steady at around $91K in 2021 and 2022, spreading the $80,000 over 3 years could result in tax savings of around $3,000 over three years due to a substantially larger portion being taxed at 12% instead of 22%.  That assumes that there are no changes to the tax-rate structure before 2023.  $3,000 of overall tax savings would more than cover the estimated $2,000 shortfall if all $80,000 is included in income on your 2020 tax return.  Spreading the income over three years might also make reporting a little easier if you end up repaying any of the distribution to the 401(k) within the three-year repayment period.

[FourDurands]

Thank you so much for all your help 😉