Hardship Withdrawals
In an April 2015 article, the IRS said plan sponsors must maintain supporting documentation for hardship withdrawals. The IRS asserted that it was not sufficient to rely on a participant’s self-certification that criteria for a hardship distribution had been met. The IRS also said that a plan sponsor’s failure to maintain hardship documentation was a plan qualification issue. That last assertion drew criticism from some daily recordkeepers who were relying on participant electronic certification for hardship withdrawals.
In something of an about-face, the IRS has issued a new 2017 memorandum that provides a method of electronic self-certification, but it comes with strings attached. A plan can process a hardship request without obtaining source documents if:
- Participants receive a notice of hardship rules and agree to make source documents available on request.
- Participants provide the plan’s third party administrator (TPA) with a summary of information from their source documents, including the cost of the hardship, amount requested, details about how costs were incurred, who incurred them, and who will be paid, etc. Participants must also certify that the data provided is true and accurate.
- TPA has a process for annually providing data on hardship withdrawals or providing plan sponsors with access to that data.
- The plan has a procedure for limiting hardship withdrawals to two per year unless there is an adequate explanation for additional withdrawals such as quarterly tuition bills.
The new guidelines are effective now. Plan sponsors should weigh the pros and cons of the self-certification procedure. It sounds efficient and limits the plan sponsor’s need to maintain documentation. But if the notifications provided to participants are incomplete or the hardship data provided by participants is inconsistent or insufficient, the IRS could still demand source documents during an examination. Additionally, self-certification opens the door to data falsification or participant failure to maintain source documents.
Legislative Activity
The Lifetime Income Disclosure Act has been introduced in the Senate and it appears to enjoy some bipartisan support. Under its provisions, defined contribution plans, including 401(k) plans, would be required to inform participants annually about how their account balance could convert to a monthly income stream at retirement. Presumably, the Act would apply to ESOPs. In the past, the Department of Labor has favored more disclosure of this nature.
Pro-ESOP activity in Congress is evidenced by the introduction of the Promotion and Expansion of Private Employee Ownership Act in the House, along with plans to consider similar legislation in the Senate. The bill is designed to encourage and facilitate the adoption of ESOPs by S Corporations.
