Perhaps Contrast Amongst Loans and Hardship Distributions; May Only Employed Participants Avail of Hardship Distributions?

[Kent Allard]

The guidance seems to indicate only employed participants may avail of hardship distributions, as the directing code section and treasury regulations seem to deliberately refer to "employees" in contrast to "participants". 

[C. B. Zeller]

Quote

1.401(k)-1(d)(3)(iii)(B) No alternative means reasonably available. A distribution is not treated as necessary to satisfy an immediate and heavy financial need of an employee unless each of the following requirements is satisfied -

(1) The employee has obtained all other currently available distributions (including distributions of ESOP dividends under section 404(k), but not hardship distributions) under the plan and all other plans of deferred compensation, whether qualified or nonqualified, maintained by the employer;

 

If the employee is terminated, then they would have a currently available distribution from the plan by reason of termination of employment. Thus the hardship request would fail to satisfy the requirements of this section.

[david rigby]

16 minutes ago, C. B. Zeller said:

If the employee is terminated, then they would have a currently available distribution from the plan by reason of termination of employment. 

Very common, but not always true.

[Peter Gulia]

I wouldn’t read too much into 26 C.F.R. § 1.401(k)-1(d)(3)’s imprecise use of the word employee.

There are many Federal income tax regulations that use the word “employee” when the situation could refer to a participant who no longer is the relevant employer’s employee.

For example, 26 C.F.R. § 1.401(a)(9)-2 (“Distributions commencing during an employee’s lifetime”) widely uses the word “employee” for rules that often apply regarding a participant who no longer is the relevant employer’s employee.

One might consider the possibility of a hardship distribution, even for a participant who is severed from employment, if no other condition entitles the participant to a distribution.

[C. B. Zeller]

1 hour ago, david rigby said:

Very common, but not always true.

I agree that a plan could restrict the availability of distributions beyond the termination of employment to the later of either normal retirement age (or age 65, if earlier), or the 10th anniversary of participation.

I find it unlikely that a plan restricting distributions in such a manner would allow former employees to take a hardship distribution. But I suppose it could happen.

[CuseFan]

19 hours ago, Peter Gulia said:

One might consider the possibility of a hardship distribution, even for a participant who is severed from employment, if no other condition entitles the participant to a distribution.

Agreed

[Paul I]

The pre-approved basic plan document we use (and is used by a very large number of institutional providers) defines a hardship distribution as "an in-service distribution upon the occurrence of a Hardship event".  The selection of hardship distributions in the adoption agreement is under the section titled " AVAILABILITY OF IN-SERVICE DISTRIBUTIONS".

For plans that use this document, hardships are not available to terminated employees.

Some of the choices for distributions available to terminated employees include timing that could extend the timing of the availability of the termination distribution.  For example, the plan could require a participant to incur a set number of breaks in service, or to have to wait until the next annual valuation date.  The plan also allows a choice to pay at Normal Retirement Age, death or disability.

As oft-repeated, read the plan document.

[fmsinc]

Hardship distributions are "in service" distributions.  There is no need for a hardship distribution if the Participant is no longer an employee, that is, no longer "in service".  As a former employee he can take any distribution or roll over that he may elect without having to justify the need for it.

 

DSG    

[Paul I]

10 minutes ago, fmsinc said:

As a former employee he can take any distribution or roll over that he may elect without having to justify the need for it.

Often this is true, but not all plans allow immediate termination distributions.  Plans can have provisions that delay the timing of when a termination distribution is payable, and a terminated participant has to wait until then.  A classic example is when a plan has only annual valuations (yes, these still exist), and the terminated participant must wait until the valuation is completed following their termination date.  In this case, the participant may have to wait a year before they can receive their distribution, and the participant would not be able to take a hardship distribution.

The point which often is lost on the participant is, yes, they are eligible take a termination distribution, but the plan controls the timing of when the payment is made.