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Cancel Plan Loan, call it COVID Dist?


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A plan participant asked me if they could cancel their plan loan because they were finding it hard to make the payments.  I wonder if the loan balance could be considered a distribution... a COVID distribution not subject to the 10% excise tax.  Thoughts?  

Note:  this participant does qualify for the COVID Dist... works for a dentist and has not worked for months at this point.  

Its not easy being green

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No. From Notice 2020-50:

Quote

However, any amount described in Q&A-4 of §1.402(c)-2 is not permitted to be treated as a coronavirus-related distribution. Thus, the following amounts are not coronavirus-related distributions: corrective distributions of elective deferrals and employee contributions that are returned to the employee (together with the income allocable thereto) in order to comply with the § 415 limitations, excess elective deferrals under § 402(g), excess contributions under § 401(k), and excess aggregate contributions under § 401(m); loans that are treated as deemed distributions pursuant to § 72(p); dividends paid on applicable employer securities under § 404(k); the costs of current life insurance protection; prohibited allocations that are treated as deemed distributions pursuant to § 409(p); distributions that are permissible withdrawals from an eligible automatic contribution arrangement within the meaning of § 414(w); and distributions of premiums for accident or health insurance under § 1.402(a)-1(e)(1)(i).

Loan relief is limited to the delay of repayments and extension of amortization period permitted under CARES sec. 2202(b) and Notice 2020-51. However, if the participant terminated employment and received a total distribution, including a loan offset, that would be an actual distribution, which would be eligible to be treated as a coronavirus-related distribution.

Free advice is worth what you paid for it. Do not rely on the information provided in this post for any purpose, including (but not limited to): tax planning, compliance with ERISA or the IRC, investing or other forms of fortune-telling, bird identification, relationship advice, or spiritual guidance.

Corey B. Zeller, MSEA, CPC, QPA, QKA
Preferred Pension Planning Corp.
corey@pppc.co

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Actually... that is what is happening.  The plan is terminating and the loan would be offset.   The participant wants to roll what cash they have into an IRA but doesn't want to take the loan offset as a defaulted loan subject to the 10% tax.   How  would we show the loan balance as a COVID dist?  Simply call it a COVID distribution?  No mention of the loan offset?

Its not easy being green

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Loan default can NOT be treated a CRD.  Loan offset CAN be treated as a CRD.  If the participant is a qualified individual and the loan offset is treated as a CRD, 10% penalty is waived and the amount is eligible for 3 year income inclusion.

Simple example

$20,000 total balance (10k loan, 10k cash)

Plan terminates and the loan is offset

The $10,000 offset is not subject to the 10%, and can be taxed over 3 years and repaid over 3 years  (1099 code 1M I think, also reported on Form 8915-E as a CRD)

$10,000 can be rolled to an IRA (1099 code G)

 

 

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5 hours ago, K-t-F said:

Actually... that is what is happening.  The plan is terminating and the loan would be offset.   The participant wants to roll what cash they have into an IRA but doesn't want to take the loan offset as a defaulted loan subject to the 10% tax.   How  would we show the loan balance as a COVID dist?  Simply call it a COVID distribution?  No mention of the loan offset?

If you want to dot the i and cross the t have the participant first elect to defer loan payments under COVID provisions and then do an offset of the loan as a COVID distribution. But I see no reason why what you want to accomplish. Just remember if the plan is adopting some or all of the CARES Act provisions which are optional for the plan, document it in your Plan Termination Amendment since you say the Plan itself is terminating.

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So as Larry points out, because a loan offset distribution may occur in connection with the plan's termination and distribution of all accounts, it works out here. But suppose that were not the case here and the employer just amended the plan to permit in-service CRD distributions. Assuming the employee meet the CRD conditions, an in-service loan offset distribution of any loan that  had not yet reached the point where it was required to be deemed would be permissible,  right?

Luke Bailey

Senior Counsel

Clark Hill PLC

214-651-4572 (O) | LBailey@clarkhill.com

2600 Dallas Parkway Suite 600

Frisco, TX 75034

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