Outstanding Loan Balance - participant death

[Alex Daisy]

A participant in a 401(k) Plan died with a $4,000 outstanding loan balance. His account is worth $100,000 and his spouse is the beneficiary on his account.

What are the options of paying back this loan? What if his beneficiary does not want to pay back the loan?

Any help would be greatly appreciated.

ALEX

[QDROphile]

Typically the loan is an offset distribution. While other options may be theoretically possible, they are usually not possible in practice. The account balance will be reduced by the distribution to $96,000, assuming you are counting the loan in the balance that you reported.

[austin3515]

Never run into this before, but my first reaction is that it seems strange that someone should incur the tax liability for a deceased indivudual's o/s loan balance simply because they were designated as beneficiary. Shouldn't the taxable income flow through to the estate or something? Can you assign someone your debt? It seems awfully strange if true.

[Guest mjb]

I thought the estate is taxed on the outstanding loan obligation as the sucessor to the employees interest which leads to the question of whether the estate could repay the $4000 loan before the expiration of the default period which would allow the spouse to rollover 100k.

[SheilaD]

In this situation in the past we have 1099'd the deceased participant for the loan balance in the year of death and it was included on his final tax return.

[Guest Sieve]

I'm not suggesting that the approach described by Sheila is wrong, but it seems strange to me--exactly opposite to the strange feeling of austin3515--that ANY portion of the deemed or actual distribution made as a consequence of death, and only as a consequence of death, should be 1099ed to the deceased (unless specifically required by statute or reg). Does anyone have authority for that position?

[K2retire]

I've only had a deceased participant with a loan once, and I'm not positive this is the correct position. We allowed the spouse to continue making the loan payments on the original schedule. Part of the discussion at the time was that the only alternative was to deem the loan and issue the deceased participant a 1099. Since they filed joint returns, she would have been effectively taxed on it if she had not made the payments.

[Guest Sieve]

Plan document provisions (e.g., requirement that loans be repaid by payroll deduction only) and the promissory note should control when it comes to allowing someone else to continue to repay the loan over time following borrower's death. The note probably is not assignable to heirs, so the plan, in order to permit the spouse to repay the loan, would have to re-write the loan, and might then be lending $$ to a non-participant (since plan participants, for plan doucument purposes, have to be, or have been, employees) which may violate plan terms. On the other hand, I do not think it's a problem if the spouse (or any other beneficiary) wants to pay off the entire loan at once. (And, I'm starting to think that issuing a 1099 to the deceased for the deemed distribution may make sense after all . . .)

[Appleby]

These may help

http://benefitslink.com/boards/index.php?showtopic=37257

http://benefitslink.com/boards/index.php?showtopic=11664

http://benefitslink.com/boards/index.php?showtopic=29996

[K2retire]

Our spouse was already a participant in her own right. The note did not require payments through payroll. Redoing the loan in her name would not have been possible since each spouse had originally taken a $50,000 loan. At the time of the husband's death, the balance of each loan had only been paid down to approximately $28,000.

I changed firms not long after this incident, so I never heard the final resolution.