401k Loan Question

[bluehavana2]

When an employee obtains a second 401k loan, is this a separate repayment schedule or can the initial loan get paid off and "refinanced" into the new loan?

 

I am the owner of a small business (2 employees, including myself) and am the administrator of our Safe Harbor 401k plan.

Hardship withdrawals and In Service Distributions are not allowed under this plan but loans are.

My employee obtained a 401k loan about 3 years ago and his remaining loan principal balance owed is about $4000.

His current 401k plan value is about $32k (100% vested) so he should be able to obtain loans totaling up to $16k against his plan.

He again needs money and needs to tap into his 401k again (I already explained this is unwise).

If he needs $10k now, and this is possible (I believe it is), what is my better option?

-a) Continue his current payroll deduction (3 more years, $4000 + 5% interest) and create a 2nd loan/payroll deduction (5 years, $10000 +9.25% interest)

-b) Create a new loan/payroll deduction combining both loans (5 years, $14000 + 9.25% interest) and distribute $10000 to him, effectively paying off the 1st loan.

-c) Something I haven't thought of

 

Looking back, I wish I had known that being the administrator of our plan could get complicated.  More work than I expected but I've sure learned a lot!

Thanks in advance for any input or insight!!!

 

 

 

[Mr Bagwell]

I will assume the plan allows for more than 1 loan.  So normalcy is the new loan is a separate repayment schedule.  So choice a.

 

41 minutes ago, bluehavana2 said:

Looking back, I wish I had known that being the administrator of our plan could get complicated.  More work than I expected but I've sure learned a lot!

I bet you have!!  LOL. 

[Pam Shoup]

Don't forget to check your plan's loan policy which will let you know if your plan permits more than one loan.  It should also specify if loan re-financing is required, etc.

[Gilmore]

You may want to start with the Plan's Loan Procedures/Policy to see what options are available.  Multiple loans may be allowed, or a single loan may be refinanced, or a combination of both.  Some policies require only 1 loan to be outstanding and no new loan until the outstanding loan is paid off.

If a refi is the only option, check with whatever service provider is assisting in the admin, if you have one, to see what options are available under a refi.  From the balances that you included in the original post it would appear that combining both balances into one $14,000 loan would not allow for a new 5 year period to start since the new loan ($14,000) plus the replaced loan ($4,000) would total $18,000 and exceed the amount available based on the $32,000 balance.  (Unless in the $32,000 vested balance you are not also including the current $4,000 loan balance, in which case the balance might be enough.)

[bluehavana2]

Thank you to those who responded.

(Pam Shoup /Gilmore)  I attached the relevant referenced from my plan design document to my original post.  I believe there is no issue with a second loan.

(Gilmore) Combining both loans would total $14k (original $4k + new $10k) so it does remain under the 50% limit for his account. My service provider is Morgan Stanley.  When I began this whole 401k journey, I was told it was pretty simple, since it’s just me and one other employee in a Safe Harbor plan.  While my Morgan Stanley advisor has been helpful, and the do have a group they ask questions of, I don’t think they have the 401k knowledge/resources of someone like Fidelity or other 401k service providers.

I’m thinking option A is safest (as Mr Bagwell suggested) so it doesn’t raise any DOL/ERISA red flags, even though I believe either option is available to me.

I remain open to all advise or further information anyone may have.  It’s a continuous learning experience!

[Gilmore]

4 hours ago, bluehavana2 said:

(Gilmore) Combining both loans would total $14k (original $4k + new $10k) so it does remain under the 50% limit for his account.

What I was referring to, Blue, is that in a refinance, if the new loan $14,000 is intended to start a new 5 year payback period you need to combine the new loan amount ($14,000) PLUS the amount of the loan being refinanced ($18,000).  If the account balance cannot support the full $18,000 combined loan amounts, then the new loan must be paid back within the original 5 year period of the loan being refinanced.  So if the original loan was started 3 years ago, and was not a residential loan, the refinanced loan would need to be paid back within the roughly two year period remaining on the first loan.

Of course none of that matters if the loan program allows for two loans to be outstanding.

[BG5150]

Does that $32,000 vested balance INCLUDE the loan?

If so, the add'l amount the participant can take is $12,000  (($32,000 x 50%) (minus) outstanding loan balance)

On 5/17/2023 at 8:49 AM, bluehavana2 said:

His current 401k plan value is about $32k (100% vested) so he should be able to obtain loans totaling up to $16k against his plan.

 

[bluehavana2]

2 hours ago, BG5150 said:

Does that $32,000 vested balance INCLUDE the loan?

If so, the add'l amount the participant can take is $12,000  (($32,000 x 50%) (minus) outstanding loan balance)

 

Yes it does. Also, I believe it's HIGHEST loan balance in the past 12 months.  Completed everything today. $10k, just to be safe.

[Bri]

No, the "highest in the last 12 months" only reduces the 50,000 branch of the either-or tree, the 50% branch is unadjusted.

[BG5150]

19 hours ago, Bri said:

No, the "highest in the last 12 months" only reduces the 50,000 branch of the either-or tree, the 50% branch is unadjusted.

I agree.  From Relius's "ERISA Research Guide (2020):

 Note: The reduction for the highest balance of the previous 12 months does not apply to the 50%
limitation.
 

[bluehavana2]

1 minute ago, BG5150 said:

I agree.  From Relius's "ERISA Research Guide (2020):

 Note: The reduction for the highest balance of the previous 12 months does not apply to the 50%
limitation.
 

Good to know.  The way the IRS worded it was confusing (as usual).  Thanks!

[BG5150]

And remember, the 50% of vested account balance must subtract out the value of any existing loans.