There may be a point in your life when you have an event that requires some cash. If you do not have that cash on hand, you may be forced to look into other options such as selling assets. Another option could be a hardship distribution from your retirement plan.
A hardship distribution is when a distribution is made to a participant from an elective deferral account made because of an immediate and heavy financial need. Not all plans allow for this type of distribution and you should review the terms of your plan to determine if it is permitted.
If the plan does allow the distribution, it should describe events that qualify under the plan’s definition of a “hardship”. Some safe harbor situations provided by the IRS regulations are:
- Medical expenses (to the extent not reimbursed by insurance)
- Costs related to the purchase of the principal residence
- Payments for education
- Payments necessary to prevent eviction or foreclosure
- Costs of burial or funeral expenses
- Certain expenses to repair damage to the employee’s principal residence
*Note: These payments may be made for the employees’ dependents.*
The plan will also describe any limitations on the distribution that may exist. For example, hardship distributions are limited to the amount necessary to fulfill the financial need. It is also limited by the amount of other resources available to the employee that can fulfil the need such as insurance reimbursement, liquidation of assets or loans. The distribution cannot be repaid to the plan so it does reduce your retirement savings permanently.
Hardship withdrawals are subject to income taxes and possible withholdings and may be subject to a 10% additional tax on early distributions depending on your age and any other exceptions you may qualify for.
By Kelsey Olsen