IRS Summarizes Retirement Plan Hardship Withdrawal Rules

An updated Issue Snapshot reflects changes made by the Bipartisan Budget Act of 2018 and subsequent IRS regulations.

The rules for participant hardship withdrawals from 401(k) and 403(b) plans have changed since the passage of the Bipartisan Budget Act of 2018 and subsequent IRS regulations, and the agency has updated its “Issue Snapshot – Hardship Distributions from 401(k) Plans” to reflect those changes.

The bill called for the secretary of the Treasury to amend regulations to delete the six-month prohibition on contributions to a retirement plan following a hardship withdrawal. The bill also extended the allowance of hardship withdrawals to include contributions to a profit-sharing or stock bonus plan, qualified nonelective contributions (QNECs) and qualified matching contributions (QMACs); earnings on the contributions are now allowed.

In addition, the bill says, “A distribution shall not be treated as failing to be made upon the hardship of an employee solely because the employee does not take any available loan under the plan.” These rules say they amend Section 401(k) of the Internal Revenue Code (IRC) and subsections under that. They are effective for plan years beginning after December 31, 2018.

However, the IRS regulations following passage of the bill clarified that “income attributable to Section 403(b) elective deferrals continues to be ineligible for distribution on account of hardship.”

The elimination of the requirement to take a loan before requesting a hardship is optional for plan sponsors; they can still require participants to take any available loans under the plan first. In addition, 401(k) plan sponsors may limit the type of contributions available for hardship distributions and whether earnings on those contributions are included.

However, the removal of the six-month suspension of elective deferrals is mandatory for hardship distributions made on or after January 1, 2020; plan sponsors cannot elect to retain this provision after that date.

The IRS Issue Snapshot includes changes to the safe harbor list of expenses for which distributions are deemed to be made on account of an immediate and heavy financial need. The safe harbor list is modified by:

  • adding “primary beneficiary under the plan” as an individual for whom qualifying medical, educational and funeral expenses may be incurred;
  • adding that damage to a principal residence that would qualify for a casualty deduction under IRC Section 165 does not have to be in a federally declared disaster area; and
  • adding a new type of expense to the list, relating to expenses incurred as a result of certain disasters.

In addition, the IRS regulations eliminated the rules under which the determination of whether a distribution is necessary to satisfy a financial need is based on all the relevant facts and circumstances and provided one general standard for determining whether a distribution is necessary.

“Issue Snapshot – Hardship Distributions from 401(k) Plans” is available here.