repay an old defaulted loan?

[AlbanyConsultant]

A plan has a maximum of one loan per participant (and it's a large plan, so they don't want to expand that). A participant defaulted in early 2011 on a loan issued in 2010... and now she is asking for a new loan.

For loans that are still within the original five-year term, I'd have the participant make the plan whole with an after-tax deposit to payoff the loan (plus interest) before issuing a new one. Can the same apply with a loan past the maximum five years? Thanks.

[Lou S.]

My understanding is that is the way it works. If you want to retire the loan you have to pay it off with interest. I think the 5 year requirement is only with respect to being 72(p) compliant. The default part is triggered by non-compliance with one or more parts of 72(p) but it doesn't technically remove the obligation to repay the loan.

Frankly I think the IRS position on "carrying" a defaulted loan on the books is a bit strange in the first place but that's what they've chosen to do. I imagine it is designed to keep from circumventing the in-service distribution rules by constantly borrowing, defaulting and removing the loan balance. But that's really just a guess.

The once nice thing about "carrying the defaulted" loan is it counts against the loan limit and eventually you don't have to worry about that troublesome participant defaulting on another loan. Though they can be a pain when they keep calling as to why they can't take another loan.

[Jim Chad]

If a plan allows 2 loans, can someone with one defaulted (deemed in 2011) loan, take out a second loan?

[Bill Presson]

If a plan allows 2 loans, can someone with one defaulted (deemed in 2011) loan, take out a second loan?

I would recommend the Plan Administrator (eg employer) not approve it. Credit risk is still supposed to be a portion of the approval process even if a credit report isn't pulled.

[RatherBeGolfing]

If a plan allows 2 loans, can someone with one defaulted (deemed in 2011) loan, take out a second loan?

I would recommend the Plan Administrator (eg employer) not approve it. Credit risk is still supposed to be a portion of the approval process even if a credit report isn't pulled.

I generally agree with this position. However, if enough time has passed and the employees circumstances are different than they were at the time of the first default, It shouldn't automatically disqualify an employee from a second loan. Better yet, just allow one loan (or none) and this will never be a problem