Considering a Hardship Withdrawal? How to Avoid Being Convicted of Perjury

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A recent legal case involving a prominent lawyer, Marilyn Mosby, exposed what happens when someone lies on their application to make a hardship withdrawal from a retirement account. The case also revealed that taking out a retirement withdrawal under false pretenses can result in a charge of perjury with legal penalties and possibly even jail time.

In this case, the lawyer was convicted and received a penalty of home confinement for a year. She has since appealed for dismissal of the charges, but still awaits the court’s decision.

Retirement Plan Money Is Designated for Use in Retirement

Even though you put your money into a retirement fund for years, and though sometimes situations create an urgent need, the permissible reasons are controlled by law. The primary purpose of a 401(k) or an IRA plan is that the money be used in retirement.

Employers have some say regarding what is or is not permissible with their retirement plan. It means that some employers may allow hardship withdrawals, but others will not allow it. Some may permit loans from those accounts, but others do not.

IRS Rules for Hardship Withdrawals

The Internal Revenue Service established some rules for making withdrawals. When broken, the law steps in to enforce them. The rules state that there are three requirements for making a hardship withdrawal from your retirement account:

1. The need must be immediate.

2. The need must be heavy (large).

3. It must be limited in size to meet that need.

Besides the above three qualifications, before applying for the hardship withdrawal, the employee must also have tried to get the necessary money from other sources. The possible sources include insurance, selling personal assets, your regular paycheck, or commercial loans.

Taxes must be paid on the money you withdraw, and there may be a 10 percent penalty in some cases. If you are not yet 59½, expect to pay the penalty. When you compute how much money you need, include that amount for taxes and the penalty. If you need $7,000, you need to borrow about $10,000.

Situations Automatically Qualifying as an Immediate Need

The IRS gives some examples of purposes that are not considered immediate or heavy. Purchases for a boat or a TV do not fall under this category. Instances that qualify include expenses for medical care, funerals for immediate family members or beneficiaries, money to prevent an eviction or foreclosure, tuition, and repairs to your principal residence. These situations automatically qualify as immediate needs.

The Money Belongs to the Plan Administrator

Legal complications arise when someone uses fraudulent reasons to get money from their retirement account under a hardship claim. Someone along the line is apt to investigate how you used the money. When they do, you could face legal problems that result in a jail term.

Another case mentioned by PlanAdvisor, shows how a man made several illegal actions to get money from his retirement account. Even though the wording of the account documents seemed to indicate it was his money, technically, it belonged to the account administrator.

Money Needed to Buy a House Does Not Need a Hardship Withdrawal

When you buy a house, you can get a loan from your retirement account. The loan is available when you buy your first home or if you have not bought another house in the previous two years.

Borrowing from an IRA to get a down payment or to build a home is different than getting a home loan from a 401(k). Borrowing money from an IRA or a Roth IRA, Bankrate says, requires that it be used within 120 days. Both types of IRAs have a lifetime borrowing limit of $10,000, which is the limit for all withdrawals.

With a traditional IRA, you are allowed to replace the money. Bankrate mentions that if you withdraw $10,000 from your IRA when you are younger, 30 years later, it could have amounted to $66,000 in interest. In retirement, you likely will have wished that you had that money.

If you borrow from a 401(k) or a Roth 401(k), Investopedia says that you will not need to pay taxes or a penalty on the loan. Any loan from either type of 401(k) must be repaid with interest, usually within five years. If you do not repay it, you will be required to pay taxes and a penalty on the money. Before borrowing the money, make sure you can pay the loan payment plus interest and a mortgage payment simultaneously.

New Laws May Make It Easier to Get a Hardship Withdrawal

The Secure 2.0 Act of 2022, The New York Times reports, makes it a little easier for employees to get a hardship loan. At the same time, it makes it easier for an employee to lie because all that is requested now is to self-report your financial need—and not provide documentation. Of course, if the IRS learns about it, documentation will certainly be required to back up the claim.

The good news is that even if you need money to make a downpayment on a new house, there are alternative ways to get it. Avoid lying about your financial need if you do not have a hardship situation. It will help you rest easier at night and not worry about it during the day.

The best way to withdraw from retirement accounts is to wait until you reach 59½. There are no withdrawal penalties after you reach that age, although you will pay taxes on withdrawals from traditional IRAs and 401(k)s.

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