IRS Rules on 401(k) Hardship Withdrawals

The money in your 401(k) plan is supposed to stay there until you're close to retirement -- until you're at least 59½ years old, to be exact. That's why it's difficult, expensive and sometimes impossible to take money out early. But if you're confronted with an urgent financial need, and the cash in your 401(k) is the only resource available, the tax code allows for hardship withdrawals. Be aware, though, that "allows for" does not mean the same thing as "guarantees."


The Internal Revenue Service allows 401(k) plans to offer hardship withdrawals, but it doesn't require them to. The choice is up to each individual 401(k) plan, and if yours doesn't offer them, you're out of luck. If a plan does offer hardship withdrawals, though, the plan must provide specific criteria for what qualifies as a "hardship." Also, a 401(k) hardship withdrawal is supposed to be a last resort. If you have other resources available to cover the costs of your hardship, you're expected to use those first. That includes taking out loans from your 401(k) plan, if available, and any withdrawals you can make from other retirement plans.


The IRS says hardship "distributions" -- the term it uses for withdrawals -- can occur only in cases of "immediate and heavy financial need." The exact definition of "immediate and heavy" rests with each 401(k) plan, but the IRS says six things automatically qualify: medical expenses; costs associated with purchasing a home; college or other post-secondary tuition and educational expenses; payments required to prevent eviction or foreclosure; funeral or burial expenses; and repairs on major damage to your home. Note that a need doesn't have to be unexpected or involuntary to qualify as immediate and heavy. A down payment on a home or a college tuition bill doesn't exactly come out of the blue, after all.


If your plan green-lights you for a hardship withdrawal, you can't just go nuts and take every dime out of your account. In general, you can take out only enough to meet the immediate and heavy financial need, plus enough to pay any taxes or penalties on the withdrawal (more on that in a bit). Further, you can't take out more than the total amount of your "elective contributions." That's the money that you've had withheld from your paycheck and put into the 401(k). Contributions made by your employer and any investment profits in your account are off limits.

Taxes and Penalties

What makes a 401(k) so attractive is the fact that you don't pay income taxes on the money you contribute, or on any employer contributions, or on any investment profits. Instead, you pay taxes only on the money you take out later on. A hardship withdrawal is no different. You will have to pay income taxes on the money. In addition, you'll have to pay a 10 percent penalty unless the hardship stems from a permanent disability; medical expenses in excess of 7.5 percent of your gross income; court-ordered spousal- or child-support payments; or a job loss after age 55. So while you may be able to take a hardship withdrawal for a down payment on your first house, there will definitely be taxes on it and most likely a penalty, too. Finally, after a hardship withdrawal, you're generally barred from making new contributions to your 401(k) for six months.

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