It may be illegal to spend money that you have set aside for yourself.
When you save money in many types of workplace retirement accounts, the IRS doesn’t collect income tax on that money until you’re older and want to withdraw it.
Do you need the money by then? Certain types of “hardship” withdrawals are allowed, but you need to have a good reason, and you definitely can’t lie.
Last week, in a rare sentencing hearing for this type of violation, federal prosecutors won a conviction for two counts against Marilyn Mosby, the former Baltimore prosecutor best known for prosecuting police officers in connection with the 2015 death of Freddie Gray: Unauthorized Withdrawals And make Fake mortgage applications When she bought a condo in Florida.
Mosby faces up to 12 months under house arrest unless his appeal is successful or he receives a presidential pardon. she demanded.
Her case is complicated. Sentence It doesn’t just cover fraudulent withdrawals: Her false claims of financial hardship to withdraw money from a city retirement account occurred during the height of the coronavirus pandemic in 2020, when alternative, one-time rules applied.
Still, hardship withdrawals are widely available.
Below are some questions and answers about what happened in Ms. Mosby’s case and what the rules actually are: Keep in mind that employers have a great deal of discretion in how they set the rules for their retirement plans, and there may be slight differences in the rules for 401(k), 403(b) and 457 plans.
Just to be clear, can you really go to jail for withdrawing money from your workplace retirement savings account?
Yes, the judge spared Mosby from jail time, but prosecutors tried to send her there.
But this is her own money, right?
Technically, the money belongs to the trust that contains the retirement plan, but there are many restrictions on how the money held for participants can be spent.
“It’s the planning money that you have certain rights to.” Kelsey Mayo“You may be entitled to money, but you may not be entitled to money right now,” said the Charlotte, North Carolina-based attorney and benefits expert.
Okay, but why does this restriction exist?
Being able to wait decades to pay income taxes on things like retirement accounts from work is a privilege. Instead, lawmakers want people to use that money for their retirement, not for other things.
“If you want access at any time, don’t take advantage of the tax benefits,” Mayo said.
So how do these “hardship” exceptions work?
Lawmakers understood that this would happen, but they wanted to allow people (who are not yet of retirement age) to withdraw money from their retirement savings only if something really bad happened.
So, if your employer allows it, you can make withdrawals when you’re in a hardship. What does “hardship” mean? If your employer has a definition, start with that.
In the FAQ When making these hardship distributions, the IRS requires that withdrawals from a 401(k) plan must be made based on an “immediate and significant” need, the amount must be appropriate given the magnitude of the need, and you must have exhausted your “other resources” before resorting to hardship withdrawals.
Examples of qualifying requirements that the IRS will allow employers to claim include medical expenses, education-related bills, threats of eviction or foreclosure, funeral expenses, and more.
Hardship withdrawals are generally taxed and can’t be paid back into a retirement plan like you can with a 401(k) or similar loan.
Are the rules for early withdrawal different for individual retirement accounts?
Yes, it is More generous But in many cases, taxes still apply.
Workplace retirement plan hardship rules changed just for the year, 2020. What changed?
The main change is that the definition of poverty has been loosened. Note Mosby’s retirement plan administrator said she “suffered adverse financial effects” as a result of being quarantined, furloughed, laid off, having her hours reduced or being unable to work due to a lack of child care.
What hardships did Mr. Mosby allege, and how did the prosecution convince the jury that they weren’t true?
While Mosby has continued working his day job during the pandemic, he said he started several side jobs before the coronavirus outbreak that have had an impact in 2020.
The jury did not believe her hardship was real, even though her 457 plan administrator, Nationwide, had allowed the withdrawals (she purchased two properties in Florida within months of making the withdrawals).
Did federal prosecutors indict many people for committing similar crimes in 2020?
No. I have not been able to find any others, and the US Attorney’s Office in Maryland has refused to comment on the existence of other cases. If anyone knows of any, please let me know.
In general, has anyone gotten into legal trouble with hardship withdrawal scams?
There appear to be only a handful of such cases in the past 20 years, some involving individuals who lied about the circumstances or how funds were used, others involving people who helped coworkers make improper withdrawals.
How worried should you be about getting into trouble for making unauthorized hardship withdrawals?
If you tell the truth, you have nothing to worry about. But recent changes in federal law may make it easier for more people to bend the truth.
One of the results is Secure 2.0 Act of 2022 This means that employers may be more likely to allow employees to self-certify their hardship. If the employer allows it, employees can prove the facts of their situation without having to provide financial documents to the employer.
Without employers’ oversight, people may be tempted to lie, and if they do, the IRS will find out in an audit, which will almost certainly require proof of hardship.
What alternatives should you consider before making a hardship withdrawal??
If you’re in a difficult situation, you’ve probably already thought of most of the possibilities, but you might also want to consider the following: loan You could also borrow from your workplace retirement plan if it offers that option, but keep in mind that repeatedly borrowing could eat into your savings, forcing you to work longer or leaving you with much less money when you retire.
Susan Beachy contributed to the research.
