Do the Final Regulations on Hardship Distributions Affect 457(b) Plan "Unforeseeable Emergencies"? Not directly.

Our prior e-alert, which you may read here, discussed the Final Regulations governing hardship distributions under 401(k) and 403(b) plans issued by the Treasury Department on September 19, 2019. The Final Regulations, which relax some of the rules governing hardship withdrawals, contain some differences from the Proposed Regulations released on November 9, 2018. One difference is the Final Regulations clarify that the prohibition on deferral suspension applies to qualified plans, 403(b) plans and governmental 457(b) plans, but does not apply to unfunded nonqualified plans, such as those subject to Internal Revenue Code ("Code") Section 409A. Since our e-alert, clients have raised additional questions regarding the applicability of the Final Regulations to governmental 457(b) plans.

Prior to the Bipartisan Budget Act of 2018, the 401(k) safe harbor hardship distribution regulations required that an employee be prohibited under the terms of the plan from making elective contributions and employee contributions to the employer's 401(k) plan and all other plans maintained by the employer for at least 6 months after receipt of the hardship distribution.  The regulations defined "plans maintained by the employer" as all deferred compensation plans maintained by the employer. These rules generally also apply to 403(b) plans.

The Bipartisan Budget Act of 2018 directed the IRS to modify these safe harbor hardship distribution regulations to remove the 6-month prohibition on elective and employee contributions. Notably, the IRS was not directed to modify the regulations governing 457(b) plans. Pursuant to this direction, the IRS issued Proposed Regulations, which eliminated the safe harbor requirement in Treas. Reg. § 1.401(k)-1(d)(3)(iv)(E), under which a distribution is deemed necessary to satisfy the financial need only if elective contributions and employee contributions are suspended for at least 6 months after a hardship distribution is made.

The Final Regulations, like the Proposed Regulations, specifically prohibit a plan from providing for a suspension of elective contributions or employee contributions as a condition of obtaining a hardship distribution. One commenter on the Proposed Regulations requested guidance on which other plans of the employer, besides the plan making the hardship distribution, are subject to the prohibition on suspensions. The Final Regulations respond to this comment by adding a new statement to the safe harbor regulations stating the prohibition on suspensions of elective and employee contributions applies to the plan from which the hardship distribution is being requested, as well as to any qualified plan, 403(b) plan, or governmental 457(b) plan of the same employer.   

In other words, if an employee requests a hardship distribution from an employer's 401(k) plan or 403(b) plan, the plan may not require the employee to suspend any deferrals to another 401(k), 403(b) plan or governmental 457(b) plan maintained by the same employer.

It is important to note that "hardship distributions," as that term is used in the safe harbor regulations, are not permitted under 457(b) plans. Rather, distributions are allowed under a 457(b) plan when a participant is faced with an "unforeseeable emergency." Neither the Bipartisan Budget Act of 2018 nor the Final Regulations amend the Treasury Regulations governing unforeseeable emergencies under a 457(b) plan. As such, a 457(b) plan may continue to require a 6-month deferral suspension if a member requests an unforeseeable emergency. However, if a member receives a hardship distribution from a 401(k) plan or a 403(b) plan, the employer cannot suspend the member's contributions to the 457(b) plan.

If you have any questions about the new hardship distribution requirements, please contact Audra Ferguson-Allen, Robert Gauss, Lisa Harrison, Lindsay Knowles, Tara Sciscoe, Chris Sears, or the Ice Miller LLP Employee Benefits attorney with whom you most closely work.

This publication is intended for general information purposes only and does not and is not intended to constitute legal advice. The reader should consult with legal counsel to determine how laws or decisions discussed herein apply to the reader’s specific circumstances.