You may have this feature in your 401(k) plan as a way for employees to tap into their retirement savings while still employed. On the surface, this may seem like a good idea and a nice thing to do for your employees.
However, if the complicated rules regarding hardship withdrawals aren’t followed, you may be putting your plan at risk for disqualification. A hardship withdrawal should never be considered until all other financial resources have been exhausted.
In general, the only expenses that qualify for hardship are:
- Certain medical expenses;
- Purchase of the employee’s principal residence;
- Post-secondary education expenses for the employee, spouse, children or dependents;
- Prevention of eviction or mortgage foreclosure;
- Burial or funeral expenses for the employee’s parent, spouse, children or dependents;
- Certain expenses for the repair of damage to the employee’s principal residence.
Employees are oftentimes confused as to what they can withdraw in the event of a hardship. Only those amounts that the employee has contributed through salary reductions are available for withdrawal. Earnings on those deferrals are not available.
You should require your employee to provide you with documentation of the qualifying expense. (Copies of foreclosure or eviction notice, medical bills, tuition statements, etc.)
The DOL and IRS are monitoring hardship withdrawals closely. In the event of an audit, they will likely ask to see a copy of the documentation.
Perhaps most importantly, remind your employees that the purpose of these funds is to help them enjoy their retirement years. Money spent now will not be available at retirement.
Mary R. Horn, QKA
Mary is a credentialed member of the American Society of Pension Professionals and Actuaries. She has more than 30 years of experience with design and administration of 401(k) and other qualified retirement plans. She is a Manager in Kemper’s Retirement Plan Administration division.
