Loan Default

[Guest andmik]

Hello,

Plan's loan policy only allows one loan outstanding at a time.

Participant has a loan outstanding and applies for and receives a check for a second loan, while the first one is still outstanding.

Participant refuses to repay the second loan in full immediately upon discovery.

I believe the second loan is treated as a default (deemed distribution) immediately as it violates the plan's loan policy provisions and therefore the second loan is taxable (with penalties depending on age), but like any other deemed distribution remains in deemed status until it can be offset.

Any further insight will be appreciated.

andmik

[Guest Sieve]

Or, you could correct the loan provisions in the plan under EPCRS, by amending the plan to permit a 2nd loan. If the sponsor/TPA made the mistake and permitted the 2nd loan, contrary to plan terms, it seems to me only reasonable that the employer correct under EPCRS.

Then, after a few years permitting 2 loans, the employer could re-amend the plan back to one loan (if desired).

[Guest Bret]

You can default either the first loan or the second loan -- if you default the first loan then you may have to default the second loan to the extent, taking into account the first loan, the loan limit (50% of account) was exceeded. Amendment is also an option. You can probably even amend the plan to allow a second loan only for this participant (as long as he is an NHCP).

Either way, SCP may not be available. My reading of EPCRS is that correction of plan loans can only be through VCP (see Section 6.07) and VCP is clearly required for correction by amendment unless a correction in Appendix B Section 2.07 applies and I think Appendix B Section 2.07(2) doesn't apply. In either case, though, you could argue either way.

[Guest Sieve]

Correct--any correction by amending the plan to permit 2 loans at a time would have to be through VCP.

[Bird]

For argument's sake, if the employer wanted to permanently change the policy to permit 2 loans, couldn't it be done any time before the end of the year? I thought that for optional amendments of this nature, the plan could be operated under the desired terms before the actual amendment as long as the amendment is adopted before the end of the year. (For that matter, I think it could be specific to this one instance, but that wouldn't be as clean - would take the plan out of VS or prototype status).

[401 Chaos]

I would be interested in any additional thoughts on the comment above about being able to default either the first or second loan in a situation such as this. It seems to me an argument could be made that so long as the first loan is outstanding and the second loan was made in violation of the one-loan limit, then the second loan should be the one to be defaulted. Do the regulations permit a plan administrator to choose among the loans to be defaulted in such a situation?