Wrong Loan Interest Rate

We have two loans that were taken with an incorrect interest rate, the plan uses the prime rate plus 1%. The prime rate had changed but the loans were taken at the old loan rate. I am looking for a correction procedure to fix the loans in question but cannot find one. Do we need to re-amortize these loans at the correct rate? Any assistance would be great.

I don't think you can change the terms of the promissory note that the participant signed even if the plan requires a different interest rate because the note is a contract between the plan and the participant. 

I didn't know if we needed to reamortize the loan going forward. And have them resign. Or if there were any other correction methods that were required.

This happened to one of my plans and we left as is. The plan was stuck with the terms, incorrect as they were.

1 hour ago, CEW said:

This happened to one of my plans and we left as is. The plan was stuck with the terms, incorrect as they were.

Just curious: was the incorrect interest rate lower or higher than what the plan's loan procedures called for? Was the participant an NHCE?

6 hours ago, JKW said:

We have two loans that were taken with an incorrect interest rate, the plan uses the prime rate plus 1%. The prime rate had changed but the loans were taken at the old loan rate. I am looking for a correction procedure to fix the loans in question but cannot find one. Do we need to re-amortize these loans at the correct rate? Any assistance would be great.

 

You basically  need to live with the "deal".  Yes, you are using the wrong interest rate, but you are probably off by a very small amount since the prime rate generally  has changed in very small increments of time. Out of curiosity, what was the rate that you used and what should have been used?

Is "prime plus one" hard-coded into the loan procedures (or document) for the plan?  Or is that just "what you normally do"? 

(I'm thinking of a "failure to follow the plan terms" operational error.)

What does the plan's loan program say about the interest rate?

I'm thinking of 2550.408b-1(a)(1)(iii) that says the loan must be made in accordance with the Plan's loan provisions to qualify for the PT exemption.  Under 2550.408b-1(d)(2), the procedure for determining the loan interest rate is required to be part of the plan's loan provisions or loan program. 

21 hours ago, duckthing said:

Just curious: was the incorrect interest rate lower or higher than what the plan's loan procedures called for? Was the participant an NHCE?

The participant was a NHCE and the interest rate was a small amount higher.

3 hours ago, CEW said:

The participant was a NHCE and the interest rate was a small amount higher.

 

To both CEW and JKW: Bri and Kevin C asked you the most important question: is the interest rate hard coded in the plan document (it generally should not be, but tell us what your plan says).  If it is not hard coded, there is no real problem. The trustees set the interest rate at what they felt appropriate for this loan. No real risk here.

No, the interest rate is not hard coded into our documents.

On 6/13/2018 at 4:03 PM, Larry Starr said:

You basically  need to live with the "deal".  Yes, you are using the wrong interest rate, but you are probably off by a very small amount since the prime rate generally  has changed in very small increments of time. Out of curiosity, what was the rate that you used and what should have been used?

As between the plan and the participant/borrower, yes - but as between the plan and it's fiduciaries, a correction has to occur *if* the interest rate is i the loan policy or otherwise part of a plan document.  It essentially is an operational failure.  The correct correction method (according to the IRS is a VCP filing - to seek either a retroactive amendment to the loan policy/plan document that specifies the interest rate (not always easy) or for a corrective contribution to be made to the plan in the difference between what is being charged and what should have been charged.

We found this out the "hard" way....

42 minutes ago, MoJo said:

As between the plan and the participant/borrower, yes - but as between the plan and it's fiduciaries, a correction has to occur *if* the interest rate is i the loan policy or otherwise part of a plan document.  It essentially is an operational failure.  The correct correction method (according to the IRS is a VCP filing - to seek either a retroactive amendment to the loan policy/plan document that specifies the interest rate (not always easy) or for a corrective contribution to be made to the plan in the difference between what is being charged and what should have been charged.

We found this out the "hard" way....

Which is why we asked if it was hard coded as part of the plan documents, and we were told it was not. So no correction necessary, because there is no actual "should have been charged" rate.

5 minutes ago, Larry Starr said:

Which is why we asked if it was hard coded as part of the plan documents, and we were told it was not. So no correction necessary, because there is no actual "should have been charged" rate.

Pattern and practice (and ancillary documents and educational material) are all relevant in determining what the plan documents "say" and what the participants expect.

Not having it spelled out in a loan policy is certainly a factor, but if you say a "reasonable rate of interest" and since the beginning of time you've "defined" reasonable as "prime plus one"....  Well....

Sure, but should our questioner worry about in this case?  Na!