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IRS Adopts Final Regulations With Required and Optional Changes to Hardship Distribution Rules for 401(k) and 403(b) Plans

October 16, 2019

Most Employers Need to Make Plan Document and Administrative Changes

In late 2018, the Internal Revenue Service (“IRS) proposed changes to the 401(k) regulations governing hardship distributions. Because the 403(b) regulations reference the 401(k) plan hardship regulations, the proposed changes also affected 403(b) plans. Most of the changes were required by Congress in the Tax Cuts and Jobs Act of 2017 ("TCJA") and the Bipartisan Budget Act of 2018. We told you about the proposed changes here. The IRS recently published final regulations based on its 2018 proposed regulations. The final regulations are here.


401(k) and 403(b) plans are permitted to make in-service distributions based on a plan participant’s hardship. Generally, unless the exception for medical expenses under Internal Revenue Code (“IRC”) §72(t)(2)(B) applies, a hardship distribution made to a participant who is younger than the age 59½ will be subject to the 10% premature distribution tax of IRC §72(t)(1).  Employers are not required to include hardship distribution provisions in their 401(k) or 403(b) plans, but if they do, the provisions must generally be written and administered in accordance with the Internal Revenue Service’s regulations.

Account Sources for Hardship Distributions from 401(k) Plans

The potential sources of hardship distributions are expanded under the IRS’s new final hardship distribution regulations. Previously a participant was only permitted to receive a hardship distribution from his or her accumulated elective deferral contributions. Now, however, a participant may also receive a hardship distribution from his or her accumulated qualified matching contributions (“QMACs”) and qualified nonelective contributions (“QNECs”), including from safe harbor matching and nonelective contributions in safe harbor 401(k) plans, which are considered to be QMACs and QNECs. Additionally, a participant may now receive a hardship distribution from accumulated earnings on his or her elective deferral contributions, QMACs, and QNECs. However, just as employers are not required to include hardship distributions in their plans, they are not required to make the maximum permissible amount available to participants for hardships, so an employer has discretion on whether, and if so when and to what extent, to implement the final regulations’ expansion of the account sources for hardship distributions.

Special Rules for Account Sources for Making Hardship Distributions from 403(b) Plans

Note that, for reasons too technical to explain here, amounts attributable to QNECs and QMACs in 403(b) custodial accounts are still not distributable on account of hardship. Hardship distributions may, however, be made from amounts attributable to QNECs and QMACs in the case of 403(b) annuities. Earnings attributable to elective deferrals in both 403(b) custodial accounts and 403(b) annuities still remain undistributable on account of hardship. However, the other hardship distribution regulations changes described below generally do apply to both 403(b) annuities and 403(b) custodial accounts, in the same way they apply to 401(k) plans.

Other Changes to the Hardship Distribution Rules

Plans are no longer permitted to suspend a participant who receives a hardship distribution from making elective deferrals for six months or any other period. Also, plans no longer need to require participants who want to take hardship distributions to first take a participant loan, although they may continue to do so if they want to and so provide. As was previously the case, a participant must exhaust any other available plan distributions before taking a hardship distribution. Note that the new regulations now specify that any available nonqualified or qualified plans sponsored by the same employer are considered in determining whether the participant has any available nonhardship distributions.

The final regulations provide that for purposes of a medical, educational, or funeral expense hardship, expenses of the participant’s primary beneficiary, as well as those of the participant’s spouse, child, or other dependent, qualify as a hardship. For this purpose, the beneficiary must be the participant’s primary beneficiary only for an unspecified portion of the participant’s account, so theoretically an individual’s being first in line to receive a very small percentage of the participant’s account in the case of the participant’s death would qualify him or her.

The final regulations specify that a casualty loss will be a hardship even if it is not in a federally declared disaster area. This fixes a problem that had arisen with respect to the casualty loss safe harbor hardship because of TCJA’s suspension of the deductibility of casualty losses outside federally declared disaster areas. The final regulations also treat expenses (not just casualty losses) of individuals living in FEMA-declared disaster areas that are attributable to a FEMA-declared disaster as hardships.

While the final hardship distribution regulations retain separate general rules and an alternative safe harbor list of needs for determining what constitutes a hardship (i.e. funeral expenses, medical expenses, etc.), the IRS has consolidated what were previously a separate facts and circumstances rule and a safe harbor rule for determining whether a hardship distribution is necessary to satisfy the participant’s hardship. The resulting new rule requires that: (1) the participant first take all available nonhardship distributions from the employer’s qualified and nonqualified plans; (2) the participant represent to the plan administrator in writing (including an electronic writing or recorded telephone conversation) that he or she has insufficient cash or other liquid assets to satisfy the hardship; and (3) while the plan administrator need not undertake any factual investigation of the participant’s representation, the plan administrator must not have knowledge contrary to the participant’s representation.

Amendment Deadline for Individually Designed and Governmental Plans

Individually-designed plans of nongovernmental employers will need to be amended to take into account the IRS’s final hardship distribution regulations by the end of the second calendar year following inclusion of the final hardship distribution regulations changes in the IRS’s Required Amendments List (“RAL”). Thus the earliest possible amendment deadline would be December 31, 2021, which would be the deadline if the IRS includes the final hardship distribution regulations changes in the 2019 RAL.

The deadline for amendment of any IRC §414(d) governmental plan for the final hardship distribution regulations will be the later of either: (a) the same deadline as for a nongovernmental plan, i.e., the end of second calendar year following inclusion of the final hardship distribution regulations in the RAL (which, as explained in the preceding paragraph, could be as early as December 31, 2021); or (b) the end of the third regular legislative session of the governmental body with authority to amend the plan, again following inclusion of the final hardship distribution regulations in the RAL. Thus, in the case of a plan of a municipality with a city council or similar legislative body that meets on a recurring basis during the calendar year, the amendment deadline is likely to be the same as for a nongovernmental plan, while in the case of a plan provided for by state statute, the deadline will depend on whether the state’s legislature meets annually or biannually (and if biannually, whether it meets in odd or even years).

Prior to amending its plan, an employer should follow a uniform policy regarding the introduction of both required and optional changes under the final rules.

Amendment Deadline for Pre-Approved Plans

Under Rev. Proc. 2016-37, an adopting employer’s preapproved plan must generally adopt a required plan amendment by the due date of the employer’s federal income tax return for the year for which the amendment is required to be effective. Thus, for an adopting employer with a calendar year tax year, the amendment deadline would be the due date in 2021 of its 2020 federal income tax return. However, an earlier amendment may be required (to the consternation of many preapproved plan sponsors) because: (a) the effective date of the changes required by the IRS’s final hardship regulations is generally keyed to distributions occurring on or after January 1, 2020 (not to Plan years); and (b) many of the changes in the final regulations could optionally have been applied earlier than 2020.

The American Retirement Association, among others, has brought the issue of potentially impractical early amendment deadlines for some changes required by the final hardship distribution regulations for preapproved plan adopters to the IRS’s urgent attention. See American Association of Retirement Plans letter to IRS dated October 8, 2019, which can be viewed here.

Qualified Reservist Distributions

“Qualified reservist distributions” are distributions attributable to elective deferral contributions that are made to a participant who is a member of a uniformed service in connection with such member’s being called to active duty. Reflecting legislative changes that were already in effect, the IRS’s final regulations now include qualified reservist distributions in the list of distributions that may be made from 401(k) and 403(b) plans before a participant’s attainment of age 59½. Under IRC §414(u)(12)(B)(ii), a participant who receives a qualified reservist distribution must be suspended from making elective deferral contributions for six months. Under IRC §72(t)(2)(G), qualified reservist distributions are exempt from the IRC§72(t) 10% tax on pre-59 ½ distributions.

Tabular Summary

The changes in the final regulations and their permissible and required effective dates, as well as the deadline for amending individually designed plans for the new rules, are summarized in detail in tabular form in Appendix A of this article, which may be viewed here.

Should you have any questions concerning 401(k) or other qualified retirement plan matters, please contact Luke Bailey at or any other member of Clark Hill’s Employee Benefits ERISA & Compliance team.

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