While a recent rule change making 401(k) hardship withdrawals easier is being met with concern by some advisors, others believe it will help make defined contribution plans more attractive and flexible for younger savers.
On September 23, the IRS published a final rule easing some restrictions on hardship distributions from defined contribution plans, including the elimination of a six-month moratorium on plan contributions for participants who take hardship withdrawals, opening up withdrawals of plan earnings and easing the steps administrators must take to verify a participant’s hardship.
“A lot of people simply don’t know that you can take these withdrawals,” said David Wilson, a financial advisor with New York-based Watts Capital. “Any effort to simplify these rules is a plus.”
The changes also make it easier to take hardship withdrawals in the case of a federally declared disaster in an area where a plan participant lives or works.
Plan administrators will be required to amend their plans to reflect some of these rule changes by Dec. 31, 2021, but will need to comply with the regulations operationally by Jan. 1, 2020.
Kevin Miller, CEO of Bloomington, Minn.-based RIA Systelligence and portfolio manager for E-Valuator Funds, said that the suspension of the six-month moratorium on plan contributions is a plus for clients.
“This isn’t like a loan where they can go in and just get money at any time. They have to incur an event that meets the definition of a hardship,” said Miller. “It’s punishing to require people to sit on the sidelines just because they incurred a hardship.”
Missing six months of potential contributions after having to take a withdrawal from a plan due to hardship just added insult to injury for participants already under financial duress, said Neal Nolan, senior financial advisor and director of ERISA services at Asheville, N.C.-based Parsec Financial, who added that eliminating a well-learned habit of saving for retirement over a six-month span could have dire long-term consequences for savers.
“Getting out of the habit of saving can have a devastating impact on a participant’s future, leaving them with a difficult choice of either working longer, saving more [and spending less] or taking more portfolio risk,” said Nolan. “As you get older, these consequences are harder and harder to accept.”
Wilson agreed, also arguing that for many of his clients, who tend to be in their 30s and 40s, retirement can feel like an irrelevant financial goal. Younger clients want to be able to enjoy the benefits of tax-deferred savings in an account that’s more flexible.
“I think it makes sense to limit withdrawals so people can have money there for retirement,” said Wilson. “At the same time, you want people making progress on all of their financial goals, whether that’s buying a home or protecting themselves from a potential hardship.”