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Maximum Loan Limit - defies logic


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Participant has a vested balance of $75,000 including an outstanding loan balance of $15,000.  The highest outstanding loan balance in the last 12 months is $35,000. If the loan limit is 50% of the vested balance not to exceed $50,000 reduced by the highest outstanding loan balance, what is the maximum amount available for loan?    Fifty percent of the vested balance is $37,500; $15,000 is outstanding leaving $22,500 available for a loan.  But $50,000 less $35,000 is $15,000; $15,000 is less than $22,500, thus $15,000 is the maximum amount available for loan.  Good so far?

So the Participant takes a loan for $15,000 and now has total outstanding loans of $30,000.  Does it not stand to reason that since loans were maxed out that the Participant now has $0 available to take another loan?  Let's do the math again.  Participant has a vested balance of $75,000 including outstanding loans of $30,000.  The highest outstanding loan balance in the last 12 months remains at $35,000.  Fifty percent of the vested balance is $37,500; $30,000 is outstanding leaving $7,500 available for a loan.  The $50,000 limit less $35,000 is $15,000.  Now $7,500 is less than $15,000, thus, what do you know, now we have $7,500 available for a new loan!

So Participant is told that he is maxing out his loans on one day, only to find more available for a loan after taking the "maximum" loan the day before.

I've been doing this a long time (perhaps too long!) and never came across this before.  Do I have it right?  Missing anything?

 

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If you're missing anything I can't find it. I think there is some funkiness to the results in certain ranges and circumstances.

I think the intent of the rules would be to count the new loan as part of the "max in the last 12 months" but that's not how they read. I wouldn't mind being corrected.

Ed Snyder

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Ok - I'll take a crack at it.  I don't think you have to apply both limits.   Here is the verbiage from 72(p):

(A) General ruleParagraph (1) shall not apply to any loan to the extent that such loan (when added to the outstanding balance of all other loans from such plan whether made on, before, or after August 13, 1982), does not exceed the lesser of(i) or (ii)

(i) $50,000, reduced by the excess (if any) of—

       (I)the highest outstanding balance of loans from the plan during the 1-year period ending on the day before the date on which such loan was made, over

       (II)the outstanding balance of loans from the plan on the date on which such loan was made, or
 
(ii)the greater of (I) one-half of the present value of the nonforfeitable accrued benefit of the employee under the plan, or (II) $10,000.
For purposes of clause (ii), the present value of the nonforfeitable accrued benefit shall be determined without regard to any accumulated deductible employee contributions (as defined in subsection (o)(5)(B)).
 
Since the starting balance is less than $100,000, then (ii) is "the lesser of".  In my opinion, the $22,500 is the amount that the participant had available, not the $15,000.  This would account for the additional $7,500 that was available on that second day ($15,000 plus $7,500).
 
I was taught that you only need to examine the $50,000 limit when the participant's vested balance is over $100,000.
 
Hope this helps! 
 
 
 
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If it's after the fact (i.e. $15k loan was already processed) then I guess you would be stuck with two loans anyway.  If it wasn't processed yet you could always send your AF RK rep the 72 (p) code above to backup your assertion that the loan can be $22,500.  At least that has worked for me before in some cases!  Good luck! 

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Thanks for posting the Q, and the answer. I think the problem is here:

7 hours ago, Brenda Wren said:

But $50,000 less $35,000 is $15,000; $15,000 is less than $22,500, thus $15,000 is the maximum amount available for loan. 

The reduction to 50K is actually 35000-15000, or 20,000, so the $50k limit, adjusted is 30,000. My spreadsheet missed that adjustment. It came from McKay Hochman in 2010 but I may have mangled it.

Ed Snyder

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4 hours ago, Bird said:

Thanks for posting the Q, and the answer. I think the problem is here:

The reduction to 50K is actually 35000-15000, or 20,000, so the $50k limit, adjusted is 30,000. My spreadsheet missed that adjustment. It came from McKay Hochman in 2010 but I may have mangled it.

Bird has the right number in my mind.  I haven't had to compute a 401(k) loan since 2012 so I am happy to be told I am wrong but based on this IRS example this is the math.

https://www.irs.gov/retirement-plans/issue-snapshot-borrowing-limits-for-participants-with-multiple-plan-loans

 

Example 2: Calculation of the maximum amount of loan when there are prior loans.

Assume that Plan B permits participant loans (including multiple loans).

Mark has a vested account balance of $200,000 and took a loan for $40,000 on August 1, 2013. On December 1, 2015, when the loan balance is $25,000, Mark wants to take another loan from the plan. The loan balance on December 1, 2014, was $32,000. The maximum amount that Mark can borrow is $18,000. This is calculated by first determining the repaid loan amount for the one-year period before the loan was made. That amount is $7,000. It is the difference between the highest outstanding loan balance for the one-year period ending on December 1, 2015 ($32,000) and the outstanding balance on the day of the loan ($25,000). The $50,000 limit is reduced by the repaid loan amount to $43,000 ($50,000 - $7,000). Therefore, the maximum amount of the new loan is the reduced limit minus the outstanding balance on the day of the loan, which is $18,000 ($43,000 - $25,000).

 

So for the original question:

Step 1:  The difference between the highest loan balance and current balance is $20,000.  That number subtracted from the $50,000-20,000= $30,000

That is the step 1 limit.

Step 2:  75,000*50%= 37,500.  You take the current loan balance from that number 37,500-15,000= $22,500

Step 2 is lower so that is the max loan and the number you were expecting. 

 

Maybe the math of step 1 will always mean step 2 is lower if the balance is <$100,000 as noted above.  I will allow someone who cares more to work that math out.  However, the error in the original comment seems to be taking 50,000-37,500 vs the difference between the highest loan balance and the current loan balance of $20,000.

I guess you might want to send the IRS link to American Funds and ask them why their system doesn't sync with the IRS' example. 

 

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On 10/10/2023 at 5:52 AM, Brenda Wren said:

So the Participant takes a loan for $15,000 and now has total outstanding loans of $30,000.  Does it not stand to reason that since loans were maxed out that the Participant now has $0 available to take another loan?

It's the balance of all loans that were outstanding during the 1-year period. Immediately after the new $15k loan the highest outstanding balance of loans in previous 12 months is $50k ($35k + $15k). So completely maxed out. As payments continue to be made on both loans, the highest outstanding in any new 12-month period is going to drift lower and small loans will again be available under 72(p), but plan terms of course may further limit.

Luke Bailey

Senior Counsel

Clark Hill PLC

214-651-4572 (O) | LBailey@clarkhill.com

2600 Dallas Parkway Suite 600

Frisco, TX 75034

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With § 72(p) added to the Internal Revenue Code on September 3, 1982 and applying to loans made or revised after August 13, 1982, one would like to think that 41 years later the software ought to apply the rules and calculate a next loan’s limit without us needing to think about it.

https://www.govinfo.gov/content/pkg/STATUTE-96/pdf/STATUTE-96-Pg324.pdf

But experience teaches us to look for and check all assumptions.

Peter Gulia PC

Fiduciary Guidance Counsel

Philadelphia, Pennsylvania

215-732-1552

Peter@FiduciaryGuidanceCounsel.com

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