Repayment of loans in default

[Felicia]

Are employers required to permit employees to pay back loans that are in default(that is, loan payments were not made on time and were not made during cure period)? If so, what are the repayment requirements? Cites would be helpful.

[QDROphile]

Employers do not have any role in decisions about payment of plan loans. Loan payments are the province of plan administrators. If the employer is the plan administrator, shame on the plan designer!

Look at Treas. Reg. section 1.72(p)-1, Q&A 10 to 21, and Q&A 19(B) and 21 in particular. If the loan is not treated as an offset distribution, I think it would be a breach of fiduciary duty to refuse to allow a participant to pay. The plan administrator could establish reasonable conditions for payment.

Or perhaps you are asking if the employer could amend the plan to provide that loans could not be paid under the circumstances you describe. A much more intersting question. I would advise against it out of a concern that the loan program could fail the requirements of section 72(p), but I am not aware of any authority that spells it out.

[lkpittman]

Good question, Felicia. I assume you're talking about a loan that has been treated as a deemed distribution under the new final regs that is still carried on the books of the trust and still accrues interest. Note that Q&A 19 of the regs provides that "a loan that is deemed to be distributed under 72(p) ceass to be an oustanding loan for purposes of section 72 . . ." However, I think you've still got a valid "loan" on the books for other purposes that is due and payable from the participant until repayment, "actual distribution" or offset and the terms of the note/loan document should apply. Also, see Q & A 16, where the IRS states that the deemed distribution does not "correct" a loan which is also a "prohibited transaction" which would mean that the participant would still be required to repay the loan under the PH correction rules, even after a deemed distribution under 72(p) because the loan was in default.

Frankly, I don't know why anyone would want to repay the loan after a deemed distribution (they've already experienced a taxable event and offset later won't cause another taxable event), but I guess it could happen.

[QDROphile]

A person would repay a loan after a deemed distribution (1)to enjoy the tax deferred earnings on the repaid amount (same reason people make nondeductible contributions to regular IRAs) and (2) to reduce outstanding loan balances to allow for increased future borrowing from the plan.