401(k)’s are a powerful tool for retirement planning. Many plans allow for hardship distributions, which can be used to cover sudden and large financial burdens. Here are some basic details on hardship distributions that may be useful to you.
Hardship distributions in 401(k) plans have been identified as one of the causes of retirement plan leakage, i.e. distributions from retirement plan accounts before retirement that are not replaced. On the other side of the coin is the positive effect that the availability of hardship distributions has on participation. When all is said and done, the scales tip in favor of hardship distributions.
The hardship distribution can be made if the hardship causes an “immediate and heavy financial need,” and the distribution is “necessary to satisfy that financial need.” The determination of whether the need is immediate and heavy is based on the facts of the situation. To avoid that potential defect the plan can provide that only the safe harbor definition of immediate and heavy need will be available. This includes:
- Expenses for medical care
- Costs related to the purchase of a principal residence, not including mortgage payments
- Payment of tuition, related educational expenses, and room and board for up to the next twelve months for post secondary education for the participant, participant’s spouse, children or dependents
- Payments necessary to prevent eviction of the participant from their primary residence or foreclosure on that residence
- Payments for burial or funeral expenses for the participant’s parent, spouse, child or dependent
- Expenses for the repair of damage to the participant’s principal residence that would qualify as a casualty deduction
Once the need is determined to fall into the above criteria, the next step is to satisfy the necessity of the distribution. First the distribution cannot exceed the amount of the need. The only exception is that the distribution can include any federal, state or local income taxes levied on the distribution. A hardship distribution is subject to all income taxes that apply, and in addition is subject to a 10% excise tax if the participant is under age 59½.
Next, it must be shown that the need cannot be satisfied from other resources reasonably available to the participant including the participant’s spouse and minor children. Generally, the plan administrator can rely on the participant’s representation that other resources are not available unless the administrator has knowledge to the contrary. Although the participant may have other resources, if the use of those resources would worsen the hardship then those other resources would not be considered reasonably available. Rather than making the determination of the availability of other resources a safe harbor can be used for satisfaction of this requirement. Safe harbor can be used if the participant:
- Has obtained all other available distributions from the plan including non taxable plan loans if available, and
- The participant is prohibited from making elective contributions for at least six months after the hardship distribution then the second part of the guidelines are satisfied.
As you can see, hardship distributions are useful in times of need. At Centric Capital Advisors, we have experience with managing these life hurdles and understand the difficulties that can lead hardship distributions to be a necessity. If you would like to learn more, please do not hesitate to contact us at or set up a complimentary consultation.