The Internal Revenue Service has loosened regulations for hardship distributions from Section 401(k) Plans. The final regulations were issued last month pursuant to changes contained in the Bipartisan Budget Act of 2018 (Act).
Key Components of the Revised Regulations are as Follows:
(a) eliminate the requirement that plan participants take loans from the plan to the extent they are available before they are permitted to take a hardship distribution from the plan
(b) eliminate the 6-month suspension period on employee contributions once a hardship distribution has been taken
(c) change the casualty loss hardship distribution rules for disaster relief.
(d)modify the safe-harbor list of expenses in existing Regs. Sec. 1.401(k)-1(d)(3)(iii)(B) for which distributions are deemed to be made on account of an immediate and heavy financial need.
(e) expands the amounts eligible for hardship distribution to allow hardship distributions from 401(k) plan accounts holding elective deferrals, QNECs (Qualified Non-Elective Employer Contributions), QMACs (Qualified Matching Contributions), and traditional safe harbor contributions, QACA (Qualified Automatic Contribution Arrangement) safe harbor contributions, and all earnings thereon. Amounts available for distribution due to hardship under 403(b) plans are more limited. First, earnings attributable to section 403(b) elective deferrals continue to be ineligible for a hardship distribution because the Act did not amend Code section 403(b)(11) that prohibits distribution of such earnings. Second, QNECs and QMACs in a 403(b) plan that are held in a 403(b)(7) custodial account continue to be ineligible for hardship distributions. However, QNECs and QMACs in a non-custodial 403(b) annuity plan (e.g., under Code section 403(b)(1) or 403(b)(9)) are eligible for hardship distribution.
When Are the New Regulations Effective?
Changes to the hardship distribution rules apply to plan years beginning after Dec. 31, 2018. The IRS provided flexible rules for the various effective dates in the regulations because of the necessity for plan amendments to implement the new rules.
What Are the Key New Requirements Regarding Hardship Distributions You Should Convey To Your Employees?
Under the new regulations, a distribution is treated as necessary to satisfy an immediate and heavy financial need of an employee only to the extent that:
- The amount of the distribution does not exceed the amount required to satisfy the financial need (including any amounts needed to pay any federal, state, or local income taxes or expected withdrawal penalties resulting from the distribution).
- The employee has obtained all other currently available distributions (including distributions of ESOP dividends under Sec. 404(k), but not hardship distributions) under the plan and all other deferred compensation plans, whether qualified or non-qualified, maintained by the employer.
- The employee has provided the plan administrator with a written representation that he or she has insufficient cash or other liquid assets reasonably available to satisfy the need; and
- The plan administrator does not have actual knowledge that is contrary to the representation. The employer may rely on the employee’s representation (unless the employer has actual knowledge to the contrary) that the need cannot reasonably be relieved from other specified resources.