Plans Set Requirements

• The IRS sets the broad requirement that all hardship withdrawals must be used to pay for an immediate and heavy financial need. However, each 401k plan may specify the precise criteria that may be used to qualify for a hardship distribution. For example, one 401k plan may allow hardship distributions for funeral and post-secondary education expenses, but another plan may not permit any hardship distributions. Your 401k plan administrator can explain under which, if any, circumstances you can take a hardship distribution.
  
  

Taxes and Tax Penalties

• When you take a hardship distribution from your 401k plan, the IRS holds you responsible for paying income taxes on the amount of the distribution. You must add the amount of your distribution to your taxable income for the year. The tax rate depends on your marginal income tax bracket. You must also pay a 10 percent early distribution penalty on the amount of the distribution. For example, a $7,700 hardship distribution would cost you $770 in tax penalties on top of the income taxes due.
  
  

Size Limits

• You cannot take out more money from your 401k plan than you need to take care of your financial need. This amount can include the money you will have to pay in income taxes and income tax penalties on your hardship distribution. However, your hardship can include costs that you reasonable foresaw or that you voluntarily incurred. For example, you can still take a hardship withdrawal for post-secondary educational expenses, assuming your plan allows them, even though you voluntarily chose to enroll your child in an expensive private college.
  
  

Other Consequences

• You cannot make contributions to your 401k plan for at least six months after the date of your hardship distribution. This can prevent you from making your annual contribution, even if you come into money shortly after taking the hardship distribution. Also, you cannot contribute extra in future years to make up for your hardship distribution. For example, just because you took a hardship distribution of $9,000 in 2012 does not allow you to contribute an extra $9,000 in 2013 or any other year to get your retirement plan back on track.