Excess Loan Repayment

[Guest Susan M.]

We discovered that a participant went over the 5 year term on her loan and kept paying the loan

We will issue a 1099-R on the loan amount that was outstanding at the time the 5 years was up.

The question is, can the participant receive back the excess payment that should not be counted towards her loan because she went over the 5 year limit

Thank you

[ETA Consulting LLC]

We discovered that a participant went over the 5 year term on her loan and kept paying the loan

We will issue a 1099-R on the loan amount that was outstanding at the time the 5 years was up.

The question is, can the participant receive back the excess payment that should not be counted towards her loan because she went over the 5 year limit

Thank you

The principal repayments would've, effectively, become basis in the plan. Remember, even when a loan becomes a deemed distribution, the participant is allowed to continue to repay the loan; creating after-tax basis on the principal repayment. You don't need to create an after-tax source, but merely track the fact that there is a non-taxable portion in the plan subject to the same withdrawal restrictions for the source the loan was taken from. Administratively burdensome, but how the rules are written.

Good Luck!

[Guest Susan M.]

We discovered that a participant went over the 5 year term on her loan and kept paying the loan

We will issue a 1099-R on the loan amount that was outstanding at the time the 5 years was up.

The question is, can the participant receive back the excess payment that should not be counted towards her loan because she went over the 5 year limit

Thank you

The principal repayments would've, effectively, become basis in the plan. Remember, even when a loan becomes a deemed distribution, the participant is allowed to continue to repay the loan; creating after-tax basis on the principal repayment. You don't need to create an after-tax source, but merely track the fact that there is a non-taxable portion in the plan subject to the same withdrawal restrictions for the source the loan was taken from. Administratively burdensome, but how the rules are written.

Good Luck!

Thank you for your response, but what if the particpant is over 59 1/2 and allowed inservice withdrawals and I will not carry the deemed distribution. Can the participant now take out the overpayment (loan over 5 years)

Thank you

sue

[masteff]

If your plan does not provide for automatic offset upon default, then the cows are already out of the barn. You can't retroactively offset the loan. And because the regs permit payments on deemed loans, you do not have an overpayment. No overpayment, no return of money to the participant. Those were perfectly valid loan payments, so they stay in the plan (until a valid withdrawal is made under the plan's distribution rules). And if you offset the loan now, same result... the payments stay in the plan until a valid withdrawal.

[Bird]

Perhaps I'm the only one, but I'm not seeing the need to issue a 1099. If there just happened to be a couple of payments that spilled over, that doesn't constitute default, unless your documents are that strict. (And I don't believe that a provision that says "notwithstanding...it's all due on the five year anniversary" is enough to declare a default.)

I understand that a loan by its terms must call for repayment within 5 years, but I'm of the opinion that whatever is due at the end of the five year period is subject to the same grace period as any other payment.

[K2retire]

Doesn't the amount still outstanding at the end of the 5 years become taxable because it is a prohibited transaction (not a default)?

[Jim Chad]

Are all of the payments in the "next calendar quarter grace period"?