On September 23, 2019, the Treasury Department and IRS published final regulations for hardship distributions from both 401(k) and 403(b) plans (the “Final Regulations”).  Essentially the hardship distributions changes relax the hardship distribution requirements (i.e., making it easier for participants to obtain hardship distributions) and eliminate many burdens following a hardship distribution (i.e., allowing participants the flexibility to contribute to their retirement plan account shortly after obtaining a hardship distribution).

The Final Regulations respond to comments on the earlier proposed regulations issued in November 2018 (see our previous blog here).  As expected, the Final Regulations closely mirror the proposed regulations.  So, any 401(k) or 403(b) plans amended to comply with the proposed regulations will most likely satisfy the Final Regulations.

The Final Regulations make the following required and permissive changes to the hardship distribution requirements:

• Elimination of 6-Month Suspension – The Final Regulations remove the 6-month suspension rule which prevents participants who have taken hardship distributions from contributing to the plan for 6 months following the hardship distribution.

  • This is a required change on or after January 1, 2020, but a plan may elect to remove the 6-month suspension requirement as early as January 1, 2019.

• Expansion of Available Hardship Sources to include elective contributions, QNECs, QMACs, safe harbor contributions, and earnings – The Final Regulations remove the restriction against hardship distributions from qualified non-elective contributions (QNECs), qualified matching contributions (QMACs), earnings on these amounts, and earnings on elective contributions no matter when contributed or earned.  But for Section 403(b) plans, the Final Regulations only permit hardship distributions on qualified non-elective contributions (QNECs) and qualified matching contributions (QMACs) that are not in a custodial account (i.e., they are held in an annuity).  For 403(b) plans, earnings on elective deferrals remain ineligible for hardship withdrawal.

  • This is a permissive change. 

• Elimination of the Plan Loan Requirement – The Final Regulations remove the requirement that participants take all available plan loans before taking a hardship distribution (although participants still must exhaust all other in-service withdrawals available under the plan).

  • This is a permissive change.

• Creation of a General Financial Need Standard – The Final Regulations eliminate the rule under which the determination of whether a distribution is necessary to satisfy a financial need is based on all the relevant facts and circumstances and provide one general standard for determining whether a distribution is necessary to satisfy an immediate and heavy financial need.  Under this general rule, (1) a hardship distribution may not exceed the amount of the need, (2) the employee must have obtained other available distributions under the employer’s plans, and (3) the applicable employee must represent (in writing, electronically, or in another form permitted by the IRS) that he/she has insufficient cash or other liquid assets to satisfy the immediate and financial need for which the hardship is being sought.  The Final Regulations provide that a plan may provide additional conditions for employees to demonstrate that a distribution is necessary to satisfy an immediate and heavy financial need; however, the Final Regulations do not permit a suspension of elective contributions or employee contributions as a condition of obtaining a hardship distribution.

  • This is a required change for hardship distributions on or after January 1, 2020, and may be a permissive change for hardship distributions as early as of January 1, 2019.

• Creation of New Safe Harbor Circumstance for Immediate and Heavy Financial Need – The Final Regulations expand the situations deemed to create an “immediate and heavy financial need” to include expenses and losses incurred by the employee because of a federally declared disaster, if the employee’s principal residence or place of employment was in the disaster area at the time of the disaster.  Of note, there is no deadline by which a disaster-related hardship distribution must be made following the federal disaster.

  • This is a permissive change. 

• Expansion of Safe Harbor Circumstances for Qualified Beneficiary Expenses – The Final Regulations expand the safe harbor circumstances to include qualifying medical, educational, and funeral expenses for a participant’s “primary beneficiary under the plan” (i.e., an individual named as beneficiary under the plan that has an unconditional right upon the participant’s death, to all or a portion of the participant’s account balance under the plan)

  • This is a permissive change. 

• Clarification of Safe Harbor Circumstances for Casualty Loss Reason – The Final Regulations provide clarification that home casualty losses (under Code Section 165) do not have to be tied to a federal disaster to be eligible for a hardship distribution.

  • This is a permissive change.