Tag Archives: 403(b)

IRS Updates 401(k) Hardship Distribution Rules – Are You Ready?

Contributed by Kelly Haab-Tallitsch, November 21, 2020

Document with 401(k) plan

On September 23, 2019 the IRS issued final regulations updating the rules governing hardship distributions from 401(k) and 403(b) plans. They are generally similar to the proposed regulations issued late last year and primarily reflect changes made by the 2018 Tax Cuts and Jobs Act and the Bipartisan Budget Act of 2018.

Some of the changes in the final regulations are mandatory, requiring employers to take action by January 1, 2020.

  1. Eliminates of the 6-month contribution suspension requirement

Beginning January 1, 2020, 401(k) and 403(b) plans will no longer be able to suspend contributions following a hardship distribution. Plans are required to eliminate the suspension period that barred participants who take a hardship distribution from making new contributions to the plan for 6 or more months.

2. Eliminates the plan loan requirement

The new rule removes the requirement that participants take a loan from the plan before taking a hardship withdrawal. Unlike the elimination of the 6-month suspension period, this change is optional. Plans may continue to require participants take a plan loan before being eligible for a hardship withdrawal.

3. Expands contribution sources available for hardship distributions

The final rule permits (but does not require) a 401(k) plan sponsor to allow hardship distributions of elective deferrals, QNECs, QMACs, and all earnings thereon. Previously, employees could only withdraw elective deferrals (and not earnings).  Earnings on 403(b) contributions and certain 403(b) plan QNECs and QMACs remain ineligible for hardship withdrawals.

4. Provides disaster relief

To take a hardship withdrawal, employees currently must show an immediate and heavy financial need that involves one or more of the following: (1) purchase of a primary residence; (2) expenses to repair damage or to make improvements to a primary residence; (3) preventing eviction or foreclosure from a primary residence; (4) post-secondary education expenses for the upcoming 12 months for participants, spouses and children; (5) funeral expenses;  and (6) medical expenses not covered by insurance.

The final rule adds a seventh safe harbor category for expenses resulting from a federally declared disaster.

5. Eases hardship verification requirements

Under current rules, plan administrators must take into account “all relevant facts and circumstances” to determine if a hardship withdrawal is necessary. The new rule requires only that a distribution not exceed the amount of the employee’s need (including taxes), that the employee first obtains any other distributions available under the plan, and that the employee represents that he or she has insufficient cash or liquid assets “reasonably available” to satisfy the financial need.

Employee representations can be made over the phone, if the call is recorded, or can be made in writing or by e-mail. A plan administrator may rely on an employee’s representation unless the plan administrator has actual knowledge to the contrary. Plans are required to apply this standard starting in 2020.

Plan Amendments Required

401(k) plans that permit hardship distributions will need to be amended to reflect the new rules by December 31, 2021, but operational changes must comply with the new rule beginning January 1, 2020.

Proposed Regulations Issued on Hardship Distributions

Contributed by William Scogland, November 30, 2018

36677703 - finances, person stacking euro coins, close-up

hand stacking coins

The IRS has issued proposed regulations on hardship distributions under section 401(k) and 403(b) plans (“Proposed Regulations”), addressing issues raised by the Bipartisan Budget Act of 2018 (“Budget Act”) and the 2018 Tax Cuts and Jobs Act (“Tax Act”). Plan sponsors need to consider administrative and plan amendment changes promptly.

There are two requirements for a permissible hardship distribution:

  • The withdrawal must be made due to an immediate and heavy financial need; and
  • The amount of the withdrawal must be limited to the amount necessary to satisfy that financial need.

Elimination of Six-Month Contribution Suspension

Under current regulations, participants who take a hardship distribution are prohibited from making contributions to the plan and other employer-sponsored plans for six months. The Proposed Regulations eliminate the six-month contribution suspension requirement.

Plan Loans Not Required Before a Hardship Distribution

Previously, a requested hardship distribution could be approved only if the participant has taken all plan loans otherwise available. The Proposed Regulations would remove this requirement. Unlike the elimination of the six-month suspension period, however, the elimination of this requirement is not mandatory.

New Circumstances for Hardship Distributions

Under current regulations, an employee is considered to have an immediate and heavy financial need in one of six categories of hardship events. The Proposed Regulations liberalize these rules:

  • A participant could take a hardship distribution for expenses to repair damage to his principal residence if the damage qualified for a casualty loss deduction under Code Section 165. The Proposed Regulations would restore the casualty loss hardship distribution even though the casualty loss deduction has generally been repealed.
  • Hardship distributions for qualifying medical, educational, and funeral expenses include those expenses incurred by a participant’s “primary beneficiary.”
  • Under a new category of permitted hardship distribution events, participants may take a hardship distribution due to expenses and losses (including loss of income) incurred after federally-declared disasters (as long as the participant’s home or principal place of business at the time of the disaster was located in an area designated for federal assistance).

Expansion of Sources

The Proposed Regulations expand the sources available for hardship distributions. Proposed Regulations confirm that safe harbor 401(k) employer contributions (and earnings thereon) and a number of other plan “buckets” are available sources for hardship distribution. Plan sponsors would not be required to expand the available sources for hardship distributions.

Plan Administrators May Rely Solely on New Participant Representation

A participant need only represent (in writing or by electronic means) that they have insufficient cash or liquid assets to satisfy the financial need. A plan administrator could rely on the representation in the absence of actual knowledge to the contrary.

Effective Date

The Proposed Regulations generally apply to hardship distributions made in plan years starting after December 31, 2018, but some special rules apply. There may be additional changes in final regulations.