Maximum Loans

[Guest sjpilger]

Equity partner in LLC takes max loan in 6/02 of $30,000 on Account balance of $60,000. The account balance of $60,000 included $12,000 of deferrals and $12,000 of matching for 2002.

LLC loses money for 2002 creating $0 compensation for LLC ptnrs. Reversals of contributions and matching are processed leaving an account balance of $36,000. The loan now exceeds the 50% rule by $12,000. Are we out of compliance ? I can't remember where, but I recall reading that as long as the participants account balance allowed for the original loan at the time of inception (did not exceed the 50% rule) then a reduced account balance in the future would not put the loan out of compliance. I believe that this rule was established to compensate for the large earnings losses in 401K's but did not specify that it was limited to investment loss situations.

[Belgarath]

I agree that there's no problem if the sole reason for exceeding the 50% limitation is a drop in asset value. It's probably stated more clearly in English somewhere else, but take a look at DOL Reg. 2550.408b-1(f), which essentially says that it is ok if you satisfy the requirements immediately after origination of the loan.

[Mike Preston]

This case, of course, is not a case where the drop in market value is the cause of the reduction. However, I think the general rule should probably be applied anyway. The thing I'd be concerned with in this case is the match. Is the match mandatory? Is the match not only mandatory, but accrued without issue as to employment status or hours worked? If not yes and yes, then it might be argued that including the match in the account balance was inappropriate. And, if inappropriate, the loan was not in compliance from day 1, resulting in the loan being includible in income at that point in time.

But, if it was ok when it was issued, it probably is ok.

I can see the IRS arguing some sort of violation if the inclusion of the deferral and/or match was predicated on assumptions known to be false. That is, if the entity was definitively going to lose money for the year, allowing the deferral and making the match on such a deferral probably carries qualifiecation issues. But that may be a separate matter from the loan.