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Correcting Plan Loan With Term in Excess of Plan's Term Limit


401 Chaos

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I posted this in the plan loan section originally but wanted to post here as well as I think this is more a plan correction issue. Issue involves a 401(k) Plan document that expressly limits all plan loans to a maximum term of 5 years with no exception or separate discussion of principal residence loans. The Plan Administrator and TPA permitted a participant to take out a principal residence loan for a term of 10 years. That period is generally reasonable, in keeping with how TPA handles other principal residence loans under other plans without a five-year term limits on principal residence loans, etc. and would otherwise comply with applicable plan loan rules, etc. except for the plan's express 5-year term limit. (The Plan has since been amended by moving to a different prototype plan document which permits longer terms for principal residence loans.)

Is this an error that can be corrected by adoption of a retroactive plan amendment to permit longer plan loans per Section 2.07(2)(a) of Appendix B of Rev. Proc. 2008-50 by filing under VCP? Anything that would prevent that from working in this situation?

Not opposed to doing a VCP filing but am wondering if there is any easier way to correct the error given the fact that the Plan now already permits longer plan loans, etc. Since the loan in question was made prior to the new plan being adopted and at a time when the old plan with the express 5-year term was in place, I don't see a way around VCP.

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Thanks. Some stretch back to 2008 and 2009 with a couple done in 2011. I think the participants involved would have a hard time covering the amounts by reamortizing in this situation.

I ran across an article (I've tried to attach) from the July-August 2008 Journal of Retirement Planning by Susan Szafranski entitled EPCRS--The Eraser for Employee Benefit Plans. In discussing possible retroactive amendments under SCP to correct plans that permitted loans when the plan provisions did not expressly permit loans Szafranski notes the following on page 47: "This permissive retroactive amendment for loans only applies in situations where the plan document did not include a loan provision. The plan cannot be retroactively amended under VCP to allow a loan repayment period of more than five years for loans for the purchase of a primary residence."

I have not been able to find the source or other support for that statement as yet. I can understand not allowing retroactive amendment under SCP but seems strange that VCP would not permit that. Of the two failures--permitting loans where the plan does not allow any loans at all versus permitting principal residence loans for more than 5 years when the plan permits loans by limits all to 5 years--the later arguably seems more sympathetic, particularly where there is no practice of having those benefit HCEs, etc.

JORP_07_08_Szafranski.pdf

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  • 2 years later...

Just encountered a similar situation on a takeover plan. Plan limits principal residence loans to 10 years, but granted a loan for 15 years (to a Highly Compensated Employee, naturally, although I don't believe there was any intentional hanky panky).

Since the loan itself does not violate any of the 72(p) restrictions, seems to me that perhaps it can be considered an operational error, and corrected under SCP by reamortizing to pay it off within the 10 years allowed under the plan. I don't see why this should need to go through VCP if it otherwise can be considered "insignificant" in the larger context of the plan due to size, amount, only time it happened, etc...

Thoughts?

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Belgarath, I just had your exact situation: no 72(p) violation, just a failure to follow plan terms. I concluded that it could be self-corrected by reamortizing over the remaining period of the maximum 5-year term allowed by the plan. I also concluded that it definitely could not be self-corrected via a retroactive amendment to allow a longer-term residential loan.

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I just got a retroactive amendment approved in VCP to allow 15-year year home loans instead of the 10-year loans provided in the plan document. I think getting a 5-year loan converted to a home loan is tough, but if the loan is initiated as a home loan there is flexibility.

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QDRO, the problem with the VCP option in my case is that it would have cost the client $8,000 in compliance fee to do a fix via amendment for one participant. The client was able to entice the participant into agreeing to the shorter amortization period and that enticement cost the client a whole lot less than $8,000 plus the cost of paying me to prepare and file a VCP submission.

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