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Hardship Withdrawals

IF YOU HAVE MAXED out on 401(k) loans and you have an urgent financial need, you may be able to take a hardship withdrawal from your employer’s plan. Hardship withdrawals are typically allowed for unreimbursed medical expenses, college bills and funeral expenses, to prevent foreclosure or eviction, or to buy or repair your principal residence. Similar rules apply to 403(b) plans.

While hardship withdrawals are legally permissible, your employer isn’t obligated to allow them. Moreover, you may have to jump through various hoops, such as documenting your financial need.

With hardship withdrawals, the real hardship may be the cost involved. You will have to pay income taxes on the sum withdrawn, plus a 10% tax penalty if you are under age 59½. If you’re in the 22% tax bracket, a $10,000 withdrawal could leave you with just $6,800 to spend after federal taxes and penalties, and even less if you have to pay state income taxes.

Prior to 2020, employees taking hardship withdrawals could be barred from making contributions to their 401(k) for the next six months. But under new rules, retirement plans are no longer allowed to enforce a six-month suspension. Legislation in 2020 also created a new provision that allows a penalty-free withdrawal of up to $100,000 from a 401(k) or IRA if you’re the victim of an officially declared disaster, such as a hurricane. These withdrawals are either included in taxable income or can potentially be returned to the account over a period of up to three years.

Next: Life Insurance Loans

Previous: Loans From 401(k)s

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