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Plan Sponsors - Are you aware of the IRS Hardship Distributions Changes?

September 19, 2019

The Bipartisan Budget Act of 2018 made considerable changes to employee benefit plan hardship distribution rules. Plan sponsors will need to ensure these changes are adopted and communicated to employees. Read on.

A hardship withdrawal is a distribution from a 401(k) or similar 403(b) plan made on account of an immediate and heavy financial need of an employee. The amount withdrawn must be necessary to satisfy the financial need. Check out our blog, Do your Employees Self-Certify Hardship Distributions? Beware of the IRS. for a full list, but some common uses of a hardship withdrawal include:

  • Burial or funeral expenses
  • Costs attached to the purchase of a principal residence
  • Expenses for medical care that would be deductible under the Internal Revenue Code for the employee, or the employee’s spouse, child, dependent or primary beneficiary under the plan

What has changed for 2019 and beyond?

The Bipartisan Budget Act of 2018 enacted these three changes to the hardship distribution rules:

  1. The 6-month suspension of elective deferrals after a participant received a hardship distribution was repealed. Effective January 1, 2019, the 6-month suspension is optional and under the proposed regulations effective January 1, 2020 the 6-month suspension will not be allowed.
  2. Qualified non-elective or qualified matching contributions (QNECs/QMACs) that were previously not allowed are now available as a hardship distribution. This change is not applicable to 403(b) plans.
  3. Plan loans are no longer required to be taken prior to requesting a hardship, mandatory effective January 1, 2020

There are also additional proposed regulations including:

  • Changes to when a distribution can be made on account of hardship
  • Allowing participants hardship distributions to repair a primary residence (even if the repair would not otherwise qualify for a casualty loss deduction)
  • Ability to apply most of these rules to 403(b) plans

These proposed regulations became effective January 1, 2019 for calendar year plans, however changes are not required for 2019. After the issuance of the final regulations, changes will be required effective January 1, 2020.

Proposed expanded safe harbor distributions

The safe harbor rules for determining if there is an “immediate and heavy financial need” for certain financial needs is expanded to include:

  • The addition of primary beneficiaries for medical, educational and funeral expenses. The primary beneficiary does not need to be the participant’s spouse, child or dependent.
  • Certain FEMA designated disaster expenses
  • The TCJA limited casualty loss deductions to only federally-declared disasters. The proposed change disregards the previously passed TCJA limitation.

New standard for determining validity of hardship

Under a new general standard effective for distributions made on or after January 1, 2020, a participant must represent that he or she has insufficient cash or other liquid assets to satisfy the financial need. This aims to simplify the administration of hardship withdrawals.

Next steps

It would benefit plan sponsors to review the proposed regulations and decide how plans will be administered factoring in the changes. The final regulations may introduce additional changes. The majority of plans will need to be amended for compliance with the regulations, however there is no deadline for plan amendment given the regulations are proposed.

Questions on your plan and hardship distribution policy? Contact us.

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