“The 403(b) plan allows for hardship distributions and the 457(b) plan permits in-service distributions for an unforeseeable emergency. As the plan sponsor, we approve such distributions, which is the source of my question. Unfortunately, since so few in-service distributions are requested for the 457(b) we incorrectly approved such a 457(b) distribution under the 403(b) hardship safe-harbor standard rather than the unforeseeable emergency standard. How do we correct this error?”
Michael A. Webb, vice president, Retirement Practice, Cammack Retirement Group, answers:
First of all, there is a small possibility that an error has not occurred! Since you utilized an incorrect distribution procedure, you may wonder why this is the case. The reason that an error may not exist is some types of distributions satisfy BOTH an unforeseeable emergency standard AND a hardship provision. An example of such overlap is a distribution to prevent eviction or foreclosure on a participant’s primary residence, which is both an unforeseeable emergency under 457(b) AND a hardship under 403(b). In this case, there is no plan defect.
However, if the reason for distribution would NOT qualify as an unforeseeable emergency under 457(b) (e.g. a distribution for PURCHASE of a primary residence of the participant), then indeed you have an operational defect in the 457(b) plan. The not-so-good news is that the primary resource for correction of retirement plan defects, known as the Employee Plans Compliance Resolution System (EPCRS), does not include 457(b) plans, though it is possible to submit corrections to the Internal Revenue Service (IRS) under similar procedures. In addition, with distribution defects, the primary method of correction, restoration of assets to the plan, is often unavailable, since the participant has typically already spent the distribution in question. Thus, you should consult with benefits counsel well versed in such plans to discuss the appropriate method of correction.
Finally, you may wish to consider moving some of the approval function for such distributions to your vendor, if possible. Providers often have extensive experience with confirming that withdrawals satisfy all applicable plan provisions. You can still retain ultimate responsibility for withdrawal approval if desired, but a vendor review process may well have prevented the operational error that you cited.
As always, the Experts thank our readers for their thoughtful questions: there would be no Ask the Experts without readers to pose inquiries!
NOTE: This feature is to provide general information only, does not constitute legal advice, and cannot be used or substituted for legal or tax advice.