Over the past 26 years of working with doctor clients, I can’t remember a year where I received more phone calls from participants in retirement plans requesting a distribution due to a financial hardship than last year. Upon receiving such a call, we would educate the client’s staff member on the consequences of a plan distribution prior to age 59 ½, but often a “hardship distribution” was their only option. Some of the phone calls, though, resulted in having to refuse the request. Why? – Because the employee couldn’t substantiate or verify the hardship.
Warner, Norcross, & Judd (www.wnj.com), a local law firm in Grand Rapids Michigan, recently sent out a question and answer summary of this topic that I thought would be worth sharing with you for the next time you are presented with an employee requesting a distribution from your retirement plan for a “financial hardship”. Here is a paraphrased version:
Q: What documentation do I need to verify that an employee has experienced an event that qualifies as a safe harbor hardship under our 401(k) plan?
A: While the Internal Revenue Service doesn’t have specific rules for what documentation is needed, a hardship distribution should only be made if the employee has demonstrated the occurrence of the event. Having the employee fill out a form and simply check a box that they have incurred a hardship is not sufficient: you need to have some form of documentation. So, what could you use?
• Medical Expenses – ask for a copy of the medical bill, along with a denial from the insurance company, or a letter from the health care provider verifying the need for the treatment and a summary of the out-of-pocket costs.
• Purchase of principal residence – request a signed purchase agreement.
• Twelve months’ future tuition and related costs – obtain a bill or letter from the educational institution that outlines the tuition, room, board and related expenses for the student enrolled.
• Payments to prevent eviction or foreclosure on principal residence – have the employee submit to you the formal legal document giving notice of overdue rent or mortgage payments that will result in eviction or foreclosure proceedings, if not paid by a certain date.
• Burial or funeral expenses – get a copy of a death certificate and funeral home bill.
• Repair of casualty losses to a principal residence – gather evidence of a casualty loss, a repair bill and proof that the expenses were not covered by an insurance company.