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We have a 403(b) plan in which there is one participant who took out a 5 year loan in May 2008. It was scheduled to be paid off in last month.

Participant is with school district who changed their payroll from weekly to bi-weekly in 2009. They never changed loan payment amount to reflect this change.
Participant currently has 40% ($4,000.00) of loan left as a balance. Re-amoratizing isn't an option due to time frame.
I understand a missed payment that extends beyond the grace period, or a similar infraction triggers a "deemed distribution". In other words, the amount of the of the loan (or, in some situations, the amount of the loan in excess of the maximum) is treated as if it had been distributed to the participant. This means that the entire loan balance is immediately taxable and may be subject to the early distribution penalty of 10% under IRC §72(t). A deemed distribution can occur if there is no distributable event. The regulations require that a loan that has been defaulted as a deemed distribution must continue to be held on the plan records until such time such affected individual is eligible for a distribution under the terms of the plan.
However, since the missed payments appears to be the fault of the plan sponsor, what actions could be taken that relieves the participant of the tax liability of the defaulted loan?
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Depending on the specific numbers, you may be able to remortize under 1.72(p)-1 Q&A-20(a)(2) "Loans that repay a prior loan and have a later repayment date". Note that first you determine if both loans are within the max loan limit (counting both the replaced and replacement loans as simultaneously outstanding) before you have to determine if the original loan would have been paid off w/in its original permissible term.

In simple terms, if (hypothetically) your plan allowed more than one loan, could the participant take a loan right now that is more than the current loan? If so, then you can probably reamortize under Q&A-20(a)(2)

Recent discussion here: http://benefitslink.com/boards/index.php?/topic/53667-participant-loan-corrections-epcrs/

Kurt Vonnegut: 'To be is to do'-Socrates 'To do is to be'-Jean-Paul Sartre 'Do be do be do'-Frank Sinatra

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Failure to comply with the rules has the prescribed consequences without regard to fault If relief is not available under EPCRS undre the circumstances, the participant will suffer the tax consequences. It would be appropriate to consider some mitigation by the employer if there is employer fault.

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Did the participant not get a copy of the amortization schedule? Did the participant not get quarterly or annual statements with the loan balance?

I would not say the fault lies entirely with the plan sponsor.

Who did the year-end reconciling of the plan? TPA? Bundled provider? Someone should have seen this person was really behind at the end of '09. '10 the latest.

QKA, QPA, CPC, ERPA

Two wrongs don't make a right, but three rights make a left.

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