401(k) Rescue, the Ekon Benefits 401(k) Fix-It Series, describes the most common 401(k) mistakes as determined by the IRS. We provide explanations of common mistakes, suggested prevention techniques and recommendations on correction methods.

Common Mistake #10: Improperly Made Hardship Distributions

If allowed by the plan, hardship distributions are intended to help an employee address an “immediate and heavy financial need” when other reasonable resources are unavailable. Hardship distributions can generally be made from elective deferrals, and—if the plan allows—earnings on deferrals, QNECs, QMACs, and safe harbor contributions. Eligible reasons for hardship distributions generally include:

• Medical expenses that are not reimbursed for the employee, the employee’s spouse, or dependents.
• Purchase of the employee’s primary residence or to prevent eviction or foreclosure of the employee’s primary residence.
• Certain repair expenses for damage to the employee’s primary residence.
• Post-secondary tuition and related educational fees for the employee, the employee’s spouse, or dependents.
• Funeral expenses for the employee’s deceased parent, spouse, or dependent.
• Expenses and losses (including loss of income) incurred as a result of a federally declared disaster, if the participant’s principal residence or place of employment was in the disaster area.

This is a safe harbor list; plans may allow hardship distributions for other reasons if the plan permits and the need meets the “immediate and heavy” standard.

Distributions must not exceed the amount required to resolve the immediate financial need and cannot be made if another reasonably accessible resource would have sufficed. Reasonably accessible resources include reimbursements or compensation from insurance, liquidating personal assets, or halting elective deferrals or contributions.

If hardship distributions are permitted, the plan must include specific provisions governing eligibility and permissible sources. Procedures for processing hardship distributions must be clearly defined, consistently applied, and documented. Familiarize yourself with the specific hardship provisions in the plan and maintain accurate records of all information used to determine eligibility for hardship distributions, including the amount distributed.

The plan sponsor must maintain documentation of the participant’s request, eligibility, the amount distributed, and the procedures followed. Plans may rely on participant self-certification that a financial need exists and that no other resources are reasonably available, but must retain evidence of the certification and compliance with procedural rules.

How to Correct Hardship Errors

If an error is made regarding hardship distributions, the IRS offers the Self-Correction or Voluntary Correction programs under the Employee Plans Compliance Resolution System (EPCRS). As of Rev. Proc. 2021-30, many operational hardship errors are eligible for self-correction if identified and fixed within three years.

For a complete listing of the most common 401(k) mistakes, please visit the IRS 401(k) Plan Fix-It Guide. For assistance in correcting a plan error, please contact Ekon Benefits at (314)367.6555 or info@ekonbenefits.com.