Hardship distribution for 2nd residence

[Guest SAG]

Plan has the principal residence safe harbor provision.

Several years ago Participant used a hardship distribution to buy a two family house. Participant now wants to move out of the two family house and use it as rental property and take a hardship distribution to purchase a four family house that he will live in. Using the hardship distribution to purchase the 4 family house would meet the requirements of the safe harbor on its face, that is, the money will be used to purchase a principal residence. My sense, however, is that this would be in violation of the Safe Harbor Reg (Reg §1.401(k)-1(d)(iv)(A)(2)). I do not think the intent behind the principal residence safe harbor was to permit participants to keep buying residences.

Does anyone have an opinion on this?

[Alf]

It sounds like it meets the "deemed financial need" and "deemed necessary" safeharbors. If the plan has adopted both of these, the distribution is probably proper. The "general" financial need rules include needs that are voluntarily incurred, so the proposed withdrawal passes that too.

However, the "general" deemed necessary rules require that the need exceed other resources of the employee and the regulations include an example where the participant's vacation home is included in this determination. I would think that a rental property similar enough to a vacation home for these purposes, so if the plan is using the general deemed necessary standard, it would be reasonable to make sure that the equity in the rental property offsets the amount of the hardship distribution (it may even be required because the plan administrator would have actual knowledge that the need could be relieved by liquidation of the employee's other assets).

[MWeddell]

If the plan uses the safe harbor events test and the safe harbor resources test, then it sounds like it clearly meets the standards to me. The fact that the plan administrator doesn't like it or thinks that by changing principal residences the spirit behind the rule is violated ought to be irrelevant. Although plan sponsors can amend their documents to change hardship withdrawal forms of payment, one has to follow the plan rules and not exercise employer discretion. It looks to me like the plan administrator has no choice but to approve the hardship request because it meets the standards specified in the document.

[Guest Dook]

For a plan using the safe harbor definitions, I don't have a problem no matter how many hardships are taken over any period of time as long as each withdrawal is tied to a new residence purchase.

Does anyone agree however, that there might be a problem in this case (and even the previoous case of the 2 family residence) that the participant is purchasing more than their own residence?

If the representative cost of their "portion" of the residence is more than the withdrawal, fine. But what if they took a hardship of $40,000 to buy a two family house that cost $50,000, and his/her share of the house was exactly 1/2. Would there be a problem since they had, in effect, purchased $15,000 worth of someone else's residence with hardship money? Or to take it to an extreme, let's say they bought an apartment building with 10 units for $200,000 using $50,000 of hardship money. They only occupy 1/10 of the building worth approximately $20,000. Is that o.k.?

[Guest]

This doesn't sound like a hardship to me. THey'll still have a place to live if they don't get the distribution.