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30Rock

Loans to terminated participants

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If a 403b loan policy is amended to permit loans to terminated participants - in distinction from allowing an active participant to take the loan and then continue loan payments after he terminates.  Is there any down side to this? The loan policy provides for repayments via ACH so provided the terminated participant is able to set up the ACH deductions correctly and timely, I guess this is ok but have not really encountered it before and wanted to know if anyone has any experiences with this situation?

 

Thanks!

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Downside?  Just the normal stuff.  You'd need to make sure the recordkeeper can handle it but the participant probably won't be able to submit the contribution so the employer - or the computer system will have to do it.  You'll have to deal with it when the ACH fails - either for lack of funds or because the participant decides they can't or don't feel like making the payment.  You will get to listen to a unique and riveting story each time this happens and tall tales of how it all was just a big mistake and will get taken care of Friday...at the latest next Monday.  They will want to refinance it.  Your plan will become their personal bank account.  If they have a large amount of money and you want to keep those assets in the plan, maybe it's worth it.  Otherwise, if they want any money from the plan, make them take a lump sum distribution and get them out. 

 

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Check the loan policy again.  Does it say the loan payments will be ACH'd from the ER's account?

I don't think I've seen a loan policy that says how the remittances to the plan will be made. (Though I ahven't made it a point to peruse different loan policies for differences.)  They usually state how the participant can/will pay, such as payroll deduction.

Check with the R/K.  Will THEY be able to do this?  Set up individual ACH's for each of these loans?

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I echo Jack's comments.   Unless the record keeper is willing (and able) to take full responsibility for this and making sure it is paid timely and you and the client are totally outside the process it can is best to avoid this situation. 

Had a client with this option for participants and they  seemed to forgot to remit a payment (or sometimes more) each year because the participants checks were late compared to when they submitted a payroll contributions.  The client ended up correcting the late payments each time since they held the participants funds... and of course it was a loan for a mortgage so it went on like this for years.

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I think the plan has to act prudently like any other lender and make sure the borrower has the ability to repay the funds.  For example, if the participant is unemployed, who would loan money without a ready stream of funds for repayment?  I think this is a fiduciary issue.  I have seen plans that permit it.

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In general, I would never favor a policy which causes my client to have a (fiduciary) responsibility for anything or anyone not working for him or her.  My client is the plan sponsor so I perceive my "job" is to look out for him or her.  Same reason I favor "cash out" rules.   If legally possible, I want to get terminated people and their plan assets out of the plan.

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