If a plan makes a hardship distribution, the plan document must contain the appropriate language. Otherwise, the plan has an operational failure. Plan sponsors may correct this operational failure using the plan amendment correction method.
Plan amendment correction method
This method requires the plan sponsor to retroactively amend the plan to permit hardship distribution. To use the plan amendment correction method, the plan sponsor must ensure:
- The amendment satisfies Internal Revenue Code Section 401(a), and
- The plan as amended would have satisfied the IRC Section 401(a) qualification requirements (including the hardship distribution requirements under IRC Section 401(k), if applicable) had the amendment been adopted when hardship distributions were first made available.
Example: Employer X, a for-profit corporation, maintains a 401(k) plan. Although the plan didn’t have language in 2014 – 2018 to permit hardship distributions, the plan made hardship distributions of amounts allowed to be distributed under IRC Section 401(k). The standard used to determine hardship satisfied the deemed hardship distribution standards in Treas. Regs. Section 1.401(k)-1(d). The plan sponsor discovered this operational failure and filed a VCP submission in 2018. Employer X proposes a retroactive amendment and corrects the failure under VCP by adopting a plan amendment in 2018, effective back to January 1, 2014, to provide a hardship distribution option (available to all employees) that satisfies the hardship distributions rules in Treas. Regs. Section 1.401(k)-1(d). The amendment satisfies IRC 401(a), and the plan as amended in 2018 would have satisfied IRC 401(a) (including Treas. Regs. 1.401(a)(4)-4 and the hardship distributions rules under IRC 401(k)) if the amendment had been adopted in 2014.
Required items for VCP submission
- Form 8950, Application for Voluntary Correction Program (VCP) Under the Employee Plans Compliance Resolution System (EPCRS)
- Form 8951, Compliance Fee for Application for Voluntary Correction Program (VCP) Under the Employee Plans Compliance Resolution System (EPCRS) plus applicable user fee payment
- Form 14568, Model VCP Compliance Statement. This form is a model compliance statement. Use attachments to explain the failure, how you’ll correct it and the steps you’ll take to make certain the error won’t occur again.
- Form 14568-I, Model VCP Compliance Statement - Schedule 9: Limited Safe Harbor Correction by Plan Amendment
- Retirement Topics - Hardship Distributions
- Retirement Plans FAQs regarding Hardship Distributions
- Treasury Reg. Section 1.401(k)-1(d)(3)
- Do's and Don'ts of Hardship Distributions
- Correct Common Hardship Distribution Errors
- Hardship Distribution Tips from EP Exam
- 401(k) Plan Hardship Distributions - Consider the Consequences