Plan assets as collateral

[Guest TrustMe401k]

CPA firm bought a building with plan assets. They now need to replenish the cash in the plan and want to borrow money from a local bank and use the building as collateral. They pushed back when I told the Banker it was not possible.

Honestly I'm too lazy to look up the citations today so I am hoping someone can point me to a cite to provide them.

Thanks ahead of time for your help.

[david rigby]

The sponsor wants to buy the building from the plan?

PT?

Seek a PT exemption?

Or

sponsor wants to make cash contribution to the plan?

If so, would the plan require it to be allocated to the participants?

[ESOP Guy]

Just saw other reply: I am assuming here the question means the plan bought the building. If the sponsor took money from the plan to buy a building for the sponsor they need to hire an ERISA attorney to sort out the mess they made. (I would also add you might not want to use these CPAs for any services as they do reckless acts without researching them well.)

Before you get to your question have you reviewed the building purchase for a Prohibited Transaction (PT)? You need to look at who they bought the build from. Is the firm renting space in the building? One could go on and on about possible PT issues on the purchase.

This by the way is why 401(k) plans shouldn't own these kinds of assets the cash flow issues are a pain. But that ship has sailed I guess.

As far as I know they can take a loan out on the property as long as it isn't a PT. The issue a loan brings is that it could mean the plan owes taxes on any income the building generates. Do a search on the terms "debt financed income in qualified plans". They could end up with having to pay UBIT.

I think it is IRC 514 but I could be wrong.

The other issues a loan brings is can the property generate enough income to pay the loan or will they have to make contributions? If they have to make contributions and what if they can't deduct those contributions? Now they have a penalty for non-deductible contributions.

Regardless of a loan or not how do they pay out distributions? They have to value the building to know everyone's account balance. What happens if they have a bunch of people leave and they don't have enough cash to support a loan and distributions? They could once again be forced to make a large contribution.

I think they can do it. I just think the are going to find it to be more bother then it was worth.

[My 2 cents]

Question: Was the CPA firm that used plan assets to buy a building the plan sponsor or does the CPA firm consider itself entitled to spend the assets of plans sponsored by other organizations?

To what extent would replenishing the plan's cash by taking a loan backed an asset of the plan help the situation? Have they considered selling the building (they did buy the building for its market value, right?) to replenish the cash?

Isn't there a rule that the assets of the plan cannot be used to further the interests of any party in interest?

The decision to invest plan assets in purchasing a building had to be made as a fiduciary decision, and should not have taken into account the personal interests of the sponsor or any of its owners/officers.

[Guest TrustMe401k]

As I understand th situation, the CPA firm used it's onw plan's cash to purchase the building. They are NOT using it at this time and are actually in the process of trying to sell it. They bought out another CPA firm and THAT firm owned the building. The acquiring firm used the plan assets to buy the building ... It was not and is not now my client, so I didn't ask why they did this.

However, they have now approached my Bank to borrow money and want to use the plan owned building as collateral for the loan. I was under the impression you could not alienate / assign assets of the plan as collateral but need to give my banker a citiation to give the CPA firm .

As for all the thoughts around PT etc for the already completed transactions, I agree and wouldn't normally touch this with a 10 ft pole.

[ESOP Guy]

Leaving aside all the other issues around the purchase of the building for a moment and just looking at the plan's facts.

If I understand it correctly you are saying a 401(k) plan owns a building. If that is correct I am not aware of any rule that says the plan can't take out a loan on one of its own assets. The anti-alienation/assignment rules apply to paying a debt outside of the plan with someone's plan benefits. Simple example: my bank can't go after my 401(k) funds to pay off my credit card debt. They do not apply to a debt held by the plan secured by an asset in the plan.

They do need to be aware that they could generate taxes owed on any income from the debt generated income in the plan. But I don't think there is a blanket rule saying a loan can't be taken out on plan owned real estate.

[Bill Presson]

Just so everyone knows, this isn't the CPA firm I work for.