One type of distribution your 401(k) may allow for is a hardship distribution, and while the criteria can vary from plan to plan, most are generally similar. A hardship distribution is used to satisfy the immediate and heavy financial need of the participant, the participant’s spouse or the participant’s non-spouse, non-dependent beneficiary. Common examples of expenses that are deemed to be immediate and heavy are:
- Certain medical expenses
- Costs relating to the purchase of a principal residence
- Tuition and related educational fees and expenses
- Payments necessary to preview eviction from, or foreclosure on, a principal residence
- Burial or funeral expenses
The hardship distribution can only be used as a last resort. In other words, you must have obtained all other currently available distributions and loans under the plan and all other plans maintained by the employer prior to obtaining a hardship distribution.
Once a participant submits support of their hardship, employers should verify that it is their last resort with all other options fully exhausted. Alternatively, the employer may rely on a representation from you saying that you are experiencing an immediate and heavy financial need that cannot be relieved from other sources. It should be noted that employers cannot rely on this representation if they have knowledge that the employee’s need can be relieved by any of the following:
- Reimbursement or compensation by insurance
- Liquidation of the employee’s assets
- Stopping elective contributions or employee contributions under the plan
- Other currently available distributions (such as plan loans) under plans maintained by the employer or by any other employer
- Borrowing from commercial sources
Once the hardship is processed, the participant is prohibited, under the terms of the plan or an otherwise legally enforceable agreement, from making elective contributions and employee contributions to the plan and all other plans maintained by the employer for at least six months following the hardship distribution.
While a hardship distribution can be a great resource for helping participants satisfy an immediate and heavy financial need, it is important for you and your employer to follow these rules.
Courtnee A. Greshner, CPA