Changes to Hardship Distribution Rules Beginning 2019

On November 14, 2018, the IRS issued a notice of proposed rulemaking containing proposed amendments that would directly affect how hardship distributions from 401(k) and 403(b) plans are administered. Many of the changes, which became effective January 1, 2019, were derived from two earlier pieces of legislation—the Bipartisan Budget Act of 2018 and the Tax Cuts and Jobs Act of 2017. The new rules, which are summarized below, aim to ease the administrative burden of retirement plan sponsors when administering hardship distributions within their plans. Among other things, they relax the requirements for plan participants who are seeking access to their retirement funds when faced with an immediate financial need.

The new rules, which are summarized below, aim to ease the administrative burden of retirement plan sponsors when administering hardship distributions within their plans. Among other things, they relax the requirements for plan participants who are seeking access to their retirement funds when faced with an immediate financial need.

What is a hardship distribution?
A retirement plan may (but is not required to) allow a plan participant to take a distribution of a portion of his or her retirement funds if the funds are withdrawn because of an immediate and heavy financial need and if the amount is necessary for fulfilling that need. The “need” of the employee includes the need of his or her spouse or dependent.

What will change?

• Under the previous rules, plan administrators had to factor in “all relevant facts and circumstances” to determine whether a hardship withdrawal was necessary. The new rule reduces the amount of administrative oversight and documentation because it requires only:
  
  • That the distribution not exceed what the employee needs (factoring in any money to pay taxes or penalties) and
    
  • That the employee certifies that he or she does not have enough cash to meet the financial need (Plan sponsors would rely on the plan participant’s “certification” instead of supporting documents from him or her to prove the financial need.)
    
    
• The new rule eliminates the six-month suspension on new contributions. Previously, a participant who received a hardship distribution was prohibited from contributing to his or her 401(k) for six months after the date of the distribution.
  
  
• The new rule removes the requirement for a participant to first exhaust his or her plan loan options before requesting a hardship distribution.
  
  
• Previously, hardship distributions were allowable for satisfying six specific financial needs. The new rule adds a seventh financial need: expenses resulting from a federally declared disaster in an area so designated by the Federal Emergency Management Agency.
  
  
• Previously, employees could withdraw only contributions, not earnings. The new rule allows earnings on 401(k) contributions to be distributed for hardships, as well as profit-sharing and stock bonus contributions. (Earnings on 403(b) contributions remain ineligible for hardship withdrawals because of a statutory prohibition that Congress has not amended.)

What should plan sponsors do?
Plan sponsors need to amend your plan’s documents to make the new rules effective in your company’s retirement plan. In addition, you should revisit your internal procedures and the workflows for administering your plan to ensure that they are in harmony with the new hardship rule mandates. As always, you are encouraged to seek the counsel of an ERISA attorney, third-party administrator, or other service providers when assessing and implementing changes to your plan’s provisions.