Loans From a Qualified Employer Plan to
Plan Participants or Beneficiaries
DEPARTMENT OF THE TREASURY
Internal Revenue Service 26 CFR Part 1 [T D 8894] RIN 1545-AE41
TITTLE: Loans From a Qualified Employer Plan to Plan Participants or
Beneficiaries
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Final regulations.
SUMMARY: This document contains final regulations relating to loans
made from a qualified employer plan to plan participants or
beneficiaries. These final regulations provide guidance on the
application of section 72(p) of the Internal Revenue Code. These
regulations affect administrators of, participants in, and
beneficiaries of qualified employer plans that permit participants
or beneficiaries to receive loans from the plan, including loans
from section 403(b) contracts and other contracts issued under
qualified employer plans.
DATES: Effective Date: These regulations are effective July 31,
2000. Applicability Date: For dates of applicability, see
§1.72(p)-1, Q&A-22 (a) through (c)(2).
FOR FURTHER INFORMATION CONTACT: Vernon S. Carter, (202) 622-6070
(not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
This document contains final regulations (26 CFR Part 1)
under section 72 of the Internal Revenue Code of 1986 (Code). These
regulations provide guidance concerning the tax treatment of loans
that are deemed to be distributed under section 72(p). Section 72(p)
was added by section 236 of the Tax Equity and Fiscal Responsibility
Act of 1982 (96 Stat. 324), and amended by the Technical Corrections
Act of 1982 (96 Stat. 2365), the Deficit Reduction Act of 1984 (98
Stat. 494), the Tax Reform Act of 1986 (100 Stat. 2085), and the
Technical and Miscellaneous Revenue Act of 1988 (102 Stat. 3342).
On December 21, 1995, a notice of proposed rulemaking
(EE-106-82) was published in the Federal Register (60 FR 66233) with
respect to many of the issues arising under section 72(p)(2). The
preamble to the 1995 proposed regulations requested comments on
certain issues that were not addressed. Following publication of the
1995 proposed regulations, comments were received and a public
hearing was held on June 28, 1996. One of the issues on which
comments were requested and received was the effect of a deemed
distribution on the tax treatment of subsequent distributions from a
plan (such as whether a participant has tax basis as a result of a
deemed distribution). After reviewing the written comments and
comments made at the public hearing, additional proposed regulations
addressing this issue were published January 2, 1998
(REG-209476-82), in the Federal Register (63 FR 42). Written
comments were received on the 1998 proposed regulations, but no
public hearing was requested. After consideration of all comments
received on both the 1995 and the 1998 proposed regulations, the
proposed regulations are adopted as revised by this Treasury
decision.
Explanation of Provisions
Section 72(p)(1)(A) provides that a loan from a qualified
employer plan (including a contract purchased under a qualified
employer plan) to a participant or beneficiary is treated as
received as a distribution from the plan for purposes of section 72
(a deemed distribution). Section 72(p)(1)(B) provides that an
assignment or pledge of (or an agreement to assign or pledge) any
portion of a participant’s or beneficiary’s interest in a qualified
employer plan is treated as a loan from the plan.
Section 72(p)(2) provides that section 72(p)(1) does not
apply to the extent certain conditions are satisfied. Specifically,
under section 72(p)(2), a loan from a qualified employer plan to a
participant or beneficiary is not treated as a distribution from the
plan if the loan satisfies requirements relating to the term of the
loan and the repayment schedule, and to the extent the loan
satisfies certain limitations on the amount loaned. For example,
except in the case of certain home loans, the exception in section
72(p)(2) only applies to a loan that by its terms is to be repaid
over not more than five years in substantially level installments.
For purposes of section 72, a qualified employer plan
includes a plan that qualifies under section 401 (relating to
qualified trusts), 403(a) (relating to qualified annuities) or
403(b) (relating to tax sheltered annuities ), as well as a plan
(whether or 1 not qualified) maintained by the United States, a
State or a political subdivision thereof, or an agency or
instrumentality thereof. A qualified employer plan also includes a
plan which was (or was determined to be) a qualified plan or a
government plan. Summary of Comments Received and Changes Made and
Summary of the Final Regulations.
In general, comments received on the proposed regulations
were favorable and, accordingly, the final regulations retain the
general structure and substance of the proposed regulations,
including a wide variety of examples illustrating the rules in the
final regulations. However, commentators made a number of specific
recommendations for modifications and clarifications of the
regulations. The comments are summarized below, along with the IRS’
and Treasury’s consideration of those comments.
A. Cure Period for Missed Payments
The 1995 proposed regulations stated that the section 72(p)
(2)(C) requirement that repayments be made in level installments at
least quarterly would not be violated if payments are not made until
the end of a grace period that the plan administrator may
1 With respect to coverage under Title I of the Employee
Retirement Income Security Act of 1974 (88 Stat. 829) (ERISA), the
Department of Labor (DOL) has advised the IRS that an employer’s
tax-sheltered annuity program would not necessarily fail to satisfy
the Department’s regulation at 29 CFR 2510.3-2(f) merely because the
employer permits employees to make repayments of loans made in
connection with the tax-sheltered annuity program through payroll
deductions as part of the employer’s payroll deduction system, if
the program operates within the limitations set by that regulations
allow, but only to the extent the grace period does not continue
beyond the last day of the calendar quarter following the calendar
quarter in which the required installment payment was due.
Commentators suggested that the proposed regulations should specify
how the grace period is to be established, such as whether the grace
period must be contained in the plan document, a separate loan
program that is deemed to be a part of the plan document pursuant to
DOL 29 CFR 2550.408b-1(d)(2), or the summary plan description, and
whether it is permissible for a plan to have grace periods on a
participant by participant basis (so long as this did not
discriminate in favor of the highly compensated employees).
Some commentators requested that a plan participant have a
reasonable period of time (such as up to 30 days) to cure a default
after the plan administrator has sent a notice of default, and that
the section 72(p) regulations mandate that the plan administrator
send a notice of default within a reasonable period of time (such as
30 days) after it has discovered the default. These commentators
suggested that grace and cure periods might be conditioned upon the
plan administrator having an appropriate procedure in place for
timely identification of defaults and curing defects. Some
commentators requested that final regulations permit a plan
administrator to use his or her discretion, under special
circumstances, to provide a grace period of up to one year from the
date of a missed payment.
Many of these suggested changes relate to legal requirements
other than section 72(p), such as the application of the fiduciary
requirements of ERISA and 2 Federal and state laws that apply to
debtors and creditors. The 1995 proposed regulations allowed a grace
period up to the end of the next following quarter. Thus, a plan
could select a grace period of, for example, 30 days or 90 days and
could provide a special notice to the participant concerning the
grace period. Thus, many of the suggested changes would involve the
imposition of new and complicated rules for which there is no
apparent basis in section 72(p) and which would in any case be
difficult to enforce and to administer. Accordingly, the final
regulations retain the same rules as the proposed regulations.
However, the final regulations use the term cure period instead of
grace period.
2 The Department of Labor has advised the IRS that, with
respect to plans covered by Title I of ERISA, the administration of
a participant loan program involves the management of plan assets.
Therefore, fiduciary conduct undertaken in the administration of
such a loan program must conform to the rules that govern
transactions involving plan assets. See, generally, ERISA sections
403, 404, and 406. Fiduciary conduct in the administration of a loan
program would include decisions concerning the rules governing the
program, including establishing standards to govern the
appropriateness of making any particular loan and the appropriate
treatment of any defaulted loan. Further, absent an exemption, any
loan between a plan covered by Title I of ERISA and a party in
interest to the plan (including plan participants and beneficiaries)
would constitute a prohibited transaction under section 406(a)(1)(B)
of ERISA. DOL has promulgated a regulation at 29 CFR 2550.408b-1
providing guidance regarding the statutory exemption contained in
section 408(b)(1) of ERISA for plan loans to parties in interest who
are participants or beneficiaries. Further, some loans by plans
(whether or not covered under Title I of ERISA) may constitute
prohibited transactions under section 4975(c)(1)(B) of the Internal
Revenue Code. Under section 102 of Reorganization Plan No. 4 of
1978, (43 FR 47,713) (1978), the Secretary of Labor has jurisdiction
to promulgate regulations under section 4975(d)(1) of the Internal
Revenue Code, which provides a limited exemption to the prohibition
of section 4975(c)(1)(B) of the Internal Revenue Code.
The final regulations also include a new cross-reference to
section 414(u)(4), (relating to military service) which was added to
the Code by the Small Business Job Protection Act of 1996 (110 Stat.
1755).
B. Treatment of Loans after Deemed Distribution.
The 1998 proposed regulations provide that once a loan is
deemed distributed under section 72(p) of the Code, interest that
accrues thereafter on that loan is not included in income and, for
purposes of calculating the maximum permitted amount of any
subsequent loan, a loan that has been deemed distributed is
considered outstanding until the loan obligation has been satisfied.
The majority of the comments on this issue urged that the positions
taken in the 1998 proposed regulations addressing post-default
interest be adopted in the final regulations. Some commentators
asked that the regulations provide further guidance on or revise the
treatment of interest that accrues on a loan that is a deemed
distribution under section 72(p), as described in Q&A-19 of the 1998
proposed regulations. Commentators noted that, in the case of a plan
that has chosen to permit additional loans after a default that has
not been cured, the rule in the proposed regulations requiring
interest to be taken into account in determining the maximum amount
of any subsequent loan would involve costs to make system and
procedural changes to calculate the accrued interest on the
defaulted loan for this limited application. Other commentators
urged that participants be taxed on the additional interest after a
default, either annually or as an accumulated amount at the time of
a loan offset, as an incentive for the participant to repay the
loan.
One commentator raised the issue of how a deemed
distribution would be taken into account in a plan with a graded
vesting schedule.
The final regulations generally adopt the rules in the
proposed regulations, but the regulations have been revised to
indicate that a deemed distribution is not taken into account as a
distribution for purposes of the requirements of §1.411(a)-7(d)(5)
(relating to the determination of a participant’s account balance if
a distribution is made at a time when the participant’s vesting
percentage may increase).
C. Enforceable Agreement and New Technologies
The 1995 proposed regulations required that a loan be
evidenced by a legally enforceable agreement and that the legally
enforceable agreement be set forth in writing or in another form
approved by the Commissioner. Commentators asked whether a
participant needs to sign a loan agreement document and whether
loans made electronically, such as over phone or voice response
units, would be permitted.
Some comments requested elimination of the requirement that
a loan be evidenced by a legally enforceable agreement. However, the
final regulations retain this requirement. There is, arguably, no
difference between a loan that is not legally enforceable and a cash
distribution that the employee is permitted to return to the plan.
The final regulations clarify that, as long as a signature is not
required in order for the loan to be enforceable under applicable
law, the agreement need not be signed.
The final regulations also require the agreement to be set
forth in a written paper document or in another form approved by the
Commissioner. However, the final regulations also treat this
requirement as satisfied if the loan agreement is set forth in any
electronic medium that satisfies certain standards. The standards in
these final regulations for use of an electronic medium for a loan
are the same as the standards for use of an electronic medium for a
consent to a distribution under §1.411(a)-11(f)(2). 65 FR 6001
(February 8, 2000). Specifically, a loan agreement will not fail to
satisfy section 72(p)(2) of the Code merely because the loan
agreement is in an electronic medium reasonably accessible to the
participant or the beneficiary under a system that is reasonably
designed to preclude anyone other than the participant or the
beneficiary from requesting a loan, that provides the participant or
the beneficiary with a reasonable opportunity to review the terms of
the loan and to confirm, modify, or rescind the terms of the loan
before the loan is made, and that provides the participant or the
beneficiary, within a reasonable period after the loan is made, with
a confirmation of the loan terms through a written paper document or
an electronic medium. If an electronic medium is used to provide
confirmation of the loan terms, 3 the electronic medium must be
reasonably accessible to the participant or the beneficiary and the
electronic confirmation must be provided under a system reasonably
designed to give the confirmation in a manner no less understandable
to the participant or the beneficiary than a written paper document.
Also, the participant or the beneficiary must be advised of the
right to request and to receive a copy of the confirmation on a
written paper document without charge.
3 Neither the regulations regarding use of electronic medium
under section 411 nor these regulations apply for purposes of
satisfying the requirements of section 417, including the
requirement of section 417(a)(2)(A) that spousal consent be
witnessed by a notary public or plan representative.
The Electronic Signatures in Global and National Commerce Act
(114 Stat. 464) (the Electronic Signatures Act) was signed on June
30, 2000. Title I of the Electronic Signatures Act, which is
generally effective October 1, 2000, applies to certain electronic
records and signatures in commerce. In the Notice of Proposed
Rulemaking that appears in this issue of the Federal Register ,
comments are requested on the impact of the Electronic Signatures
Act on these regulations and on any future guidance that may be
needed on the application of the Electronic Signatures Act to plan
loan transactions. D. Mortgage Investment Program
Some commentators requested that the special rule in the 1995
proposed regulations under which section 72(p) would not apply to
loans made under a residential mortgage investment program be
revised to eliminate the requirement that the loans also be
available to nonparticipants. This special rule is not based on an
explicit statutory provision, but is based on legislative history
indicating the 4 understanding that section 72(p) was not intended
to apply to loans made in the ordinary course of a bona fide
residential mortgage investment program. The IRS and Treasury have
concluded that there is a risk that the intent of the section 72(p)
(2) limitations might be thwarted if a category of loans extended
solely to participants were not subject to section 72(p). However,
the extension of this requirement to otherwise bona fide mortgage
investment programs that were in effect at the time the 1995
4 H.R. Conf. Rep. No. 97-760, 97 Cong., 2d Sess. 620 (1982),
1982-2 C.B. 672 th and S. Rep. No. 97-494, 97 Cong., 2d Sess. 319,
321 (1982). th proposed regulations were issued would be
inappropriate and, accordingly, the final regulations permit plans
with these preexisting programs to continue to make such loans. The
special rule in the final regulations is not intended to provide
guidance on whether, or to what extent, a plan that is covered by
Title I of ERISA may make such residential mortgage loans available
to participants or beneficiaries of the plan without violating the
provisions of Title I of ERISA. 5
E. Other Changes
The requirement that a loan be repaid within five years does
not apply to a loan used to acquire a dwelling unit which will
within a reasonable time be used as the principal residence of the
participant. For this purpose, the 1995 proposed regulations
provided that a principal residence has the same meaning as a
principal residence under section 1034. To reflect the repeal of
section 1034 and the use of the same 6 term in section 121, the
final regulations provide that a principal residence has the same
meaning as a principal residence under section 121. 7
F. Effective Date of Final Regulations
Both the 1995 and the 1998 proposed regulations were proposed
to apply for assignments, pledges, and loans made on or after the
first January 1 that is at least six months after the issuance of
final regulations. Under certain limited conditions, the
5 See, for example, PTCE 88-59.
6 Section 1034 was repealed by section 312(b) of the Taxpayer
Relief Act of 1997 (Public Law 105-34) (111 Stat. 788).
7 Like the 1995 proposed regulations, the final regulations
(at Q&A-7) apply the tracing rules of section 163(h)(3) of the Code
to trace whether a loan is a principal residence plan loan. Notice
88-74 (1988-2 C.B. 385), sets forth certain standards applicable
under section 163(h)(3).
1998 proposed regulations permitted loans made before this proposed
general effective date to apply Q&A-19, relating to interest
accruing after a deemed distribution, and Q&A-20, relating to basis
resulting from repayments after a deemed distribution. Comments on
these transition conditions were generally favorable, but one
commentator requested that plan sponsors be permitted to rely on
these rules for loans made before the general effective date if any
reasonable and consistent method had been used to report deemed
distributions before the general effective date. The rules in the
1998 proposed regulations for pre-effective date loans included
carefully considered, specific conditions in order for such loans to
be able to rely on Q&A-19 and Q&A-20 (including several detailed
examples illustrating the application of these transition
conditions) and these rules have been retained in the final
regulations.
Commentators also requested that the general effective date
be the first January 1 that is at least 6 or 12 months after the
date of the final regulations to allow for proper redesign and
testing of plan loan administration systems. Consistent with the
proposed effective date and these comments, the final regulations
are applicable to assignments, pledges, and loans made on or after
January 1, 2002.
Special Analyses
It has been determined that this Treasury decision is not a
significant regulatory action as defined in Executive Order 12866.
Therefore, a regulatory assessment is not required. It has also been
determined that section 553(b) of the Administrative Procedure Act
(5 U.S.C. chapter 5) does not apply to these regulations, and
because the regulations does not impose a collection of information
on small entities, the Regulatory Flexibility Act (5 U.S.C. chapter
6) does not apply. Pursuant to section 7805(f) of the Internal
Revenue Code, the notice of proposed rulemaking preceding these
regulations was submitted to the Chief Counsel for Advocacy of the
Small Business Administration for comment on its impact on small
business.
Drafting Information
The principal author of these regulations is Vernon S.
Carter, Office of Division Counsel/Associate Chief Counsel (Tax
Exempt and Government Entities). However, other personnel from the
IRS and Treasury Department participated in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Adoption of Amendments to the Regu ations
Accordingly, 26 CFR part 1 is amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for part 1 continues to
read, in part, as
follows:
Authority: 26 U.S.C. 7805 * * *
Par. 2. Section 1.72-17A is amended as follows:
1. Paragraphs (d)(1), (d)(2) and (d)(3) are redesignated as
paragraphs (d)(2),
(d)(3) and (d)(4), respectively.
2. New paragraph (d)(1) is added.
The addition reads as follows: §1.72-17A Special rules
applicable to employee annuities and distributions under deferred
compensation plans to self-employed individuals and owner-employees.
* * * * *
(d) * * * (1) The references in this paragraph (d) to section
72(m)(4) are to that section as in effect on August 13, 1982.
Section 236(b)(1) of the Tax Equity and Fiscal Responsibility Act of
1982 (96 Stat. 324) repealed section 72(m)(4), generally effective
for assignments, pledges and loans made after August 13, 1982, and
added section 72(p). See section 72(p) and §1.72(p)-1 for rules
governing the income tax treatment of certain assignments, pledges
and loans from qualified employer plans made after August 13, 1982.
* * * * *
Par. 3. Section 1.72(p)-1 is added to read as follows:
§1.72(p)-1 Loans treated as distributions.
The questions and answers in this section provide guidance
under section 72(p) pertaining to loans from qualified employer
plans (including government plans and tax- sheltered annuities and
employer plans that were formerly qualified). The examples included
in the questions and answers in this section are based on the
assumption that a bona fide loan is made to a participant from a
qualified defined contribution plan pursuant to an enforceable
agreement (in accordance with paragraph (b) of Q&A-3 of this
section), with adequate security and with an interest rate and
repayment terms that are commercially reasonable. (The particular
interest rate used, which is solely for illustration, is 8.75
percent compounded annually.) In addition, unless the contrary is
specified, it is assumed in the examples that the amount of the loan
does not exceed 50 percent of the participant’s nonforfeitable
account balance, the participant has no other outstanding loan (and
had no prior loan) from the plan or any other plan maintained by the
participant’s employer or any other person required to be aggregated
with the employer under section 414(b), (c) or (m), and the loan is
not excluded from section 72(p) as a loan made in the ordinary
course of an investment program as described in Q&A-18 of this
section. The regulations and examples in this section do not provide
guidance on whether a loan from a plan would result in a prohibited
transaction under section 4975 of the Internal Revenue Code or on
whether a loan from a plan covered by Title I of the Employee
Retirement Income Security Act of 1974 (88 Stat. 829) (ERISA) would
be consistent with the fiduciary standards of ERISA or would result
in a prohibited transaction under section 406 of ERISA. The
questions and answers are as follows:
Q-1: In general, what does section 72(p) provide with respect
to loans from a
qualified employer plan?
A-1: (a) Loans. Under section 72(p), an amount received by a
participant or beneficiary as a loan from a qualified employer plan
is treated as having been received as a distribution from the plan
(a deemed distribution), unless the loan satisfies the requirements
of Q&A-3 of this section. For purposes of section 72(p) and this
section, a loan made from a contract that has been purchased under a
qualified employer plan (including a contract that has been
distributed to the participant or beneficiary) is considered a loan
made under a qualified employer plan.
(b) Pledges and assignments. Under section 72(p), if a
participant or beneficiary assigns or pledges (or agrees to assign
or pledge) any portion of his or her interest in a qualified
employer plan as security for a loan, the portion of the
individual’s interest assigned or pledged (or subject to an
agreement to assign or pledge) is treated as a loan from the plan to
the individual, with the result that such portion is subject to the
deemed distribution rule described in paragraph (a) of this Q&A-1.
For purposes of section 72(p) and this section, any assignment or
pledge of (or agreement to assign or to pledge) any portion of a
participant’s or beneficiary’s interest in a contract that has been
purchased under a qualified employer plan (including a contract that
has been distributed to the participant or beneficiary) is
considered an assignment or pledge of (or agreement to assign or
pledge) an interest in a qualified employer plan. However, if all or
a portion of a participant's or beneficiary's interest in a
qualified employer plan is pledged or assigned as security for a
loan from the plan to the participant or the beneficiary, only the
amount of the loan received by the participant or the beneficiary,
not the amount pledged or assigned, is treated as a loan.
Q-2: What is a qualified employer plan for purposes of
section 72(p)?
A-2: For purposes of section 72(p) and this section, a
qualified employer plan means--
(a) A plan described in section 401(a) which includes a
trust exempt from tax under section 501(a);
(b) An annuity plan described in section 403(a);
(c) A plan under which amounts are contributed by an
individual's employer for an annuity contract described in section
403(b);
(d) Any plan, whether or not qualified, established and
maintained for its employees by the United States, by a State or
political subdivision thereof, or by an agency or instrumentality of
the United States, a State or a political subdivision of a State; or
(e) Any plan which was (or was determined to be) described in
paragraph (a),
(b), (c), or (d) of this Q&A-2.
Q-3: What requirements must be satisfied in order for a loan
to a participant or beneficiary from a qualified employer plan not
to be a deemed distribution?
A-3: (a) In general. A loan to a participant or beneficiary
from a qualified employer plan will not be a deemed distribution to
the participant or beneficiary if the loan satisfies the repayment
term requirement of section 72(p)(2)(B), the level amortization
requirement of section 72(p)(2)(C), and the enforceable agreement
requirement of paragraph (b) of this Q&A-3, but only to the extent
the loan satisfies the amount limitations of section 72(p)(2)(A).
(b) Enforceable agreement requirement. A loan does not
satisfy the requirements of this paragraph unless the loan is
evidenced by a legally enforceable agreement (which may include more
than one document) and the terms of the agreement demonstrate
compliance with the requirements of section 72(p)(2) and this
section. Thus, the agreement must specify the amount and date of the
loan and the repayment schedule. The agreement does not have to be
signed if the agreement is enforceable under applicable law without
being signed. The agreement must be set
forth either--
(1) In a written paper document;
(2) In an electronic medium that is reasonably accessible to
the participant or the beneficiary and that is provided under a
system that satisfies the following requirements:
(i) The system must be reasonably designed to preclude any
individual other than the participant or the beneficiary from
requesting a loan.
(ii) The system must provide the participant or the
beneficiary with a reasonable opportunity to review and to confirm,
modify, or rescind the terms of the loan before the loan is made.
(iii) The system must provide the participant or the
beneficiary, within a reasonable time after the loan is made, a
confirmation of the loan terms either through a written paper
document or through an electronic medium that is reasonably
accessible to the participant or the beneficiary and that is
provided under a system that is reasonably designed to provide the
confirmation in a manner no less understandable to the participant
or beneficiary than a written document and, under which, at the time
the confirmation is provided, the participant or the beneficiary is
advised that he or she may request and receive a written paper
document at no charge, and, upon request, that document is provided
to the participant or beneficiary at no charge.
or
(3) In such other form as may be approved by the
Commissioner.
Q-4: If a loan from a qualified employer plan to a
participant or beneficiary fails to satisfy the requirements of
Q&A-3 of this section, when does a deemed distribution occur?
A-4: (a) Deemed distribution. For purposes of section 72, a
deemed distribution occurs at the first time that the requirements
of Q&A-3 of this section are not satisfied, in form or in operation.
This may occur at the time the loan is made or at a later date. If
the terms of the loan do not require repayments that satisfy the
repayment term requirement of section 72(p)(2)(B) or the level
amortization requirement of section 72(p)(2)(C), or the loan is not
evidenced by an enforceable agreement satisfying the requirements of
paragraph (b) of Q&A-3 of this section, the entire amount of the
loan is a deemed distribution under section 72(p) at the time the
loan is made. If the loan satisfies the requirements of Q&A-3 of
this section except that the amount loaned exceeds the limitations
of section 72(p)(2)(A), the amount of the loan in excess of the
applicable limitation is a deemed distribution under section 72(p)
at the time the loan is made. If the loan initially satisfies the
requirements of section 72(p)(2)(A), (B) and (C) and the enforceable
agreement requirement of paragraph (b) of Q&A-3 of this section, but
payments are not made in accordance with the terms applicable to the
loan, a deemed distribution occurs as a result of the failure to
make such payments. See Q&A-10 of this section regarding when such a
deemed distribution occurs and the amount thereof and Q&A-11 of this
section regarding the tax treatment of a deemed distribution.
(b) Examples. The following examples illustrate the rules in
paragraph (a) of this Q&A-4 and are based upon the assumptions
described in the introductory text of this
section:
Example 1. (i) A participant has a nonforfeitable account
balance of $200,000 and receives $70,000 as a loan repayable in
level quarterly installments over five years.
(ii) Under section 72(p), the participant has a deemed
distribution of $20,000 (the excess of $70,000 over $50,000) at the
time of the loan, because the loan exceeds the $50,000 limit in
section 72(p)(2)(A)(i). The remaining $50,000 is not a deemed
distribution.
Example 2. (i) A participant with a nonforfeitable account
balance of $30,000 borrows $20,000 as a loan repayable in level
monthly installments over five years.
(ii) Because the amount of the loan is $5,000 more than 50%
of the participant’s nonforfeitable account balance, the participant
has a deemed distribution of $5,000 at the time of the loan. The
remaining $15,000 is not a deemed distribution. (Note also that, if
the loan is secured solely by the participant’s account balance, the
loan may be a prohibited transaction under section 4975 because the
loan may not satisfy 29 CFR 2550.408b-1(f)(2).)
Example 3. (i) The nonforfeitable account balance of a
participant is $100,000 and a $50,000 loan is made to the
participant repayable in level quarterly installments over seven
years. The loan is not eligible for the section 72(p)(2)(B)(ii)
exception for loans used to acquire certain dwelling units.
(ii) Because the repayment period exceeds the maximum five-
year period in section 72(p)(2)(B)(i), the participant has a deemed
distribution of $50,000 at the time the loan is made.
Example 4. (i) On August 1, 2002, a participant has a
nonforfeitable account balance of $45,000 and borrows $20,000 from a
plan to be repaid over five years in level monthly installments due
at the end of each month. After making monthly payments through July
2003, the participant fails to make any of the payments due
thereafter.
(ii) As a result of the failure to satisfy the requirement
that the loan be repaid in level monthly installments, the
participant has a deemed distribution. See paragraph (c) of Q&A-10
of this section regarding when such a deemed distribution occurs and
the amount thereof.
Q-5: What is a principal residence for purposes of the
exception in section 72(p)(2)(B)(ii) from the requirement that a
loan be repaid in five years?
A-5: Section 72(p)(2)(B)(ii) provides that the requirement
in section 72(p)(2)(B)(i) that a plan loan be repaid within five
years does not apply to a loan used to acquire a dwelling unit which
will within a reasonable time be used as the principal residence of
the participant (a principal residence plan loan). For this purpose,
a principal residence has the same meaning as a principal residence
under section 121.
Q-6: In order to satisfy the requirements for a principal
residence plan loan, is a loan required to be secured by the
dwelling unit that will within a reasonable time be used as the
principal residence of the participant?
A-6: A loan is not required to be secured by the dwelling
unit that will within a reasonable time be used as the participant’s
principal residence in order to satisfy the requirements for a
principal residence plan loan.
Q-7: What tracing rules apply in determining whether a loan
qualifies as a principal residence plan loan?
A-7: The tracing rules established under section 163(h)(3)
(B) apply in determining whether a loan is treated as for the
acquisition of a principal residence in order to qualify as a
principal residence plan loan.
Q-8: Can a refinancing qualify as a principal residence plan
loan?
A-8: (a) Refinancings. In general, no, a refinancing cannot
qualify as a principal residence plan loan. However, a loan from a
qualified employer plan used to repay a loan from a third party will
qualify as a principal residence plan loan if the plan loan
qualifies as a principal residence plan loan without regard to the
loan from the third party.
(b) Example. The following example illustrates the rules in
paragraph (a) of this Q&A-8 and is based upon the assumptions
described in the introductory text of this section:
Example. (i) On July 1, 2003, a participant requests a
$50,000 plan loan to be repaid in level monthly installments over 15
years. On August 1, 2003, the participant acquires a principal
residence and pays a portion of the purchase price with a $50,000
bank loan. On September 1, 2003, the plan loans $50,000 to the
participant, which the participant uses to pay the bank loan.
(ii) Because the plan loan satisfies the requirements to
qualify as a principal residence plan loan (taking into account the
tracing rules of section 163(h)(3)(B)), the plan loan qualifies for
the exception in section 72(p)(2)(B)(ii).
Q-9: Does the level amortization requirement of section
72(p)(2)(C) apply when a participant is on a leave of absence
without pay?
A-9: (a) Leave of absence. The level amortization
requirement of section 72(p)(2)(C) does not apply for a period, not
longer than one year (or such longer period as may apply under
section 414(u)), that a participant is on a bona fide leave of
absence, either without pay from the employer or at a rate of pay
(after income and employment tax withholding) that is less than the
amount of the installment payments required under the terms of the
loan. However, the loan (including interest that accrues during the
leave of absence) must be repaid by the latest date permitted under
section 72(p)(2)(B) (e.g., the suspension of payments cannot extend
the term of the loan beyond 5 years, in the case of a loan that is
not a principal residence plan loan) and the amount of the
installments due after the leave ends (or, if earlier, after the
first year of the leave or such longer period as may apply under
section 414(u)) must not be less than the amount required under the
terms of the original loan.
(b) Military service. See section 414(u)(4) for special rules
relating to military service.
(c) Example. The following example illustrates the rules of
paragraph (a) of this Q&A-9 and is based upon the assumptions
described in the introductory text of this
section:
Example. (i) On July 1, 2002, a participant with a
nonforfeitable account balance of $80,000 borrows $40,000 to be
repaid in level monthly installments of $825 each over 5 years. The
loan is not a principal residence plan loan. The participant makes 9
monthly payments and commences an unpaid leave of absence that lasts
for 12 months. Thereafter, the participant resumes active employment
and resumes making repayments on the loan until the loan is repaid
in full (including interest that accrued during the leave of
absence). The amount of each monthly installment is increased to
$1,130 in order to repay the loan by June 30, 2007.
(ii) Because the loan satisfies the requirements of section
72(p)(2), the participant does not have a deemed distribution.
Alternatively, section 72(p)(2) would be satisfied if the
participant continued the monthly installments of $825 after
resuming active employment and on June 30, 2007 repaid the full
balance remaining due.
Q-10: If a participant fails to make the installment payments
required under the terms of a loan that satisfied the requirements
of Q&A-3 of this section when made, when does a deemed distribution
occur and what is the amount of the deemed distribution?
A-10: (a) Timing of deemed distribution. Failure to make any
installment payment when due in accordance with the terms of the
loan violates section 72(p)(2)(C) and, accordingly, results in a
deemed distribution at the time of such failure. However, the plan
administrator may allow a cure period and section 72(p)(2)(C) will
not be considered to have been violated if the installment payment
is made not later than the end of the cure period, which period
cannot continue beyond the last day of the calendar quarter
following the calendar quarter in which the required installment
payment was due.
(b) Amount of deemed distribution. If a loan satisfies Q&A-3
of this section when made, but there is a failure to pay the
installment payments required under the terms of the loan (taking
into account any cure period allowed under paragraph (a) of this
Q&A-10), then the amount of the deemed distribution equals the
entire outstanding balance of the loan (including accrued interest)
at the time of such failure.
(c) Example. The following example illustrates the rules in
paragraphs (a) and
(b) of this Q&A-10 and is based upon the assumptions described in
the introductory text of this section:
Example. (i) On August 1, 2002, a participant has a
nonforfeitable account balance of $45,000 and borrows $20,000 from a
plan to be repaid over 5 years in level monthly installments due at
the end of each month. After making all monthly payments due through
July 31, 2003, the participant fails to make the payment due on
August 31, 2003 or any other monthly payments due thereafter. The
plan administrator allows a three-month cure period.
(ii) As a result of the failure to satisfy the requirement
that the loan be repaid in level installments pursuant to section
72(p)(2)(C), the participant has a deemed distribution on November
30, 2003, which is the last day of the three-month cure period for
the August 31, 2003 installment. The amount of the deemed
distribution is $17,157, which is the outstanding balance on the
loan at November 30, 2003. Alternatively, if the plan administrator
had allowed a cure period through the end of the next calendar
quarter, there would be a deemed distribution on December 31, 2003
equal to $17,282, which is the outstanding balance of the loan at
December 31, 2003.
Q-11: Does section 72 apply to a deemed distribution as if
it were an actual distribution?
A-11: (a) Tax basis. If the employee’s account includes after-
tax contributions or other investment in the contract under section
72(e), section 72 applies to a deemed distribution as if it were an
actual distribution, with the result that all or a portion of the
deemed distribution may not be taxable.
(b) Section 72(t) and (m). Section 72(t) (which imposes a 10
percent tax on certain early distributions) and section 72(m)(5)
(which imposes a separate 10 percent tax on certain amounts received
by a 5-percent owner) apply to a deemed distribution under section
72(p) in the same manner as if the deemed distribution were an
actual distribution.
Q-12: Is a deemed distribution under section 72(p) treated
as an actual distribution for purposes of the qualification
requirements of section 401, the distribution provisions of section
402, the distribution restrictions of section 401(k)(2)(B) or 403(b)
(11), or the vesting requirements of §1.411(a)-7(d)(5) (which
affects the application of a graded vesting schedule in cases
involving a prior distribution)?
A-12: No; thus, for example, if a participant in a money
purchase plan who is an active employee has a deemed distribution
under section 72(p), the plan will not be considered to have made an
in-service distribution to the participant in violation of the
qualification requirements applicable to money purchase plans.
Similarly, the deemed distribution is not eligible to be rolled over
to an eligible retirement plan and is not considered an
impermissible distribution of an amount attributable to elective
contributions in a section 401(k) plan. See also §1.402(c)-2,
Q&A-4(d) and §1.401(k)- 1(d)(6)(ii).
Q-13: How does a reduction (offset) of an account balance in
order to repay a plan loan differ from a deemed distribution?
A-13: (a) Difference between deemed distribution and plan
loan offset amount. (1) Loans to a participant from a qualified
employer plan can give rise to two types of taxable distributions--
(i) A deemed distribution pursuant to section 72(p); and
(ii) A distribution of an offset amount.
(2) As described in Q&A-4 of this section, a deemed
distribution occurs when the requirements of Q&A-3 of this section
are not satisfied, either when the loan is made or at a later time.
A deemed distribution is treated as a distribution to the
participant or beneficiary only for certain tax purposes and is not
a distribution of the accrued benefit. A distribution of a plan loan
offset amount (as defined in §1.402(c)-2, Q&A-9(b)) occurs when,
under the terms governing a plan loan, the accrued benefit of the
participant or beneficiary is reduced (offset) in order to repay the
loan (including the enforcement of the plan's security interest in
the accrued benefit). A distribution of a plan loan offset amount
could occur in a variety of circumstances, such as where the terms
governing the plan loan require that, in the event of the
participant's request for a distribution, a loan be repaid
immediately or treated as in default.
(b) Plan loan offset. In the event of a plan loan offset,
the amount of the account balance that is offset against the loan is
an actual distribution for purposes of the Internal Revenue Code,
not a deemed distribution under section 72(p). Accordingly, a plan
may be prohibited from making such an offset under the provisions of
section 401(a), 401(k)(2)(B) or 403(b)(11) prohibiting or limiting
distributions to an active employee. See §1.402(c)-2, Q&A-9(c),
Example 6. See also Q&A-19 of this section for rules regarding the
treatment of a loan after a deemed distribution.
Q-14: How is the amount includible in income as a result of a
deemed distribution under section 72(p) required to be reported?
A-14: The amount includible in income as a result of a deemed
distribution under section 72(p) is required to be reported on Form
1099-R (or any other form prescribed by the Commissioner).
Q-15: What withholding rules apply to plan loans?
A-15: To the extent that a loan, when made, is a deemed
distribution or an account balance is reduced (offset) to repay a
loan, the amount includible in income is subject to withholding. If
a deemed distribution of a loan or a loan repayment by benefit
offset results in income at a date after the date the loan is made,
withholding is required only if a transfer of cash or property
(excluding employer securities) is made to the participant or
beneficiary from the plan at the same time. See §§35.3405-1, f-4,
and 31.3405(c)-1, Q&A-9 and Q&A-11, of this chapter for further
guidance on withholding rules.
Q-16: If a loan fails to satisfy the requirements of Q&A-3 of
this section and is a prohibited transaction under section 4975, is
the deemed distribution of the loan under section 72(p) a correction
of the prohibited transaction?
A-16: No, a deemed distribution is not a correction of a
prohibited transaction under section 4975. See §§141.4975-13 and
53.4941(e)-1(c)(1) of this chapter for guidance concerning
correction of a prohibited transaction.
Q-17: What are the income tax consequences if an amount is
transferred from a qualified employer plan to a participant or
beneficiary as a loan, but there is an express or tacit
understanding that the loan will not be repaid?
A-17: If there is an express or tacit understanding that the
loan will not be repaid or, for any reason, the transaction does not
create a debtor-creditor relationship or is otherwise not a bona
fide loan, then the amount transferred is treated as an actual
distribution from the plan for purposes of the Internal Revenue
Code, and is not treated as a loan or as a deemed distribution under
section 72(p).
Q-18: If a qualified employer plan maintains a program to
invest in residential mortgages, are loans made pursuant to the
investment program subject to section 72(p)?
A-18: (a) Residential mortgage loans made by a plan in the
ordinary course of an investment program are not subject to section
72(p) if the property acquired with the loans is the primary
security for such loans and the amount loaned does not exceed the
fair market value of the property. An investment program exists only
if the plan has established, in advance of a specific investment
under the program, that a certain percentage or amount of plan
assets will be invested in residential mortgages available to
persons purchasing the property who satisfy commercially customary
financial criteria. A loan will not be considered as made under an
investment program if--
(1) Any of the loans made under the program matures upon a
participant’s termination from employment;
(2) Any of the loans made under the program is an earmarked
asset of a participant’s or beneficiary’s individual account in the
plan; or
(3) The loans made under the program are made available only
to participants or beneficiaries in the plan.
(b) Paragraph (a)(3) of this Q&A-18 shall not apply to a plan
which, on December 20, 1995, and at all times thereafter, has had in
effect a loan program under which, but for paragraph (a)(3) of this
Q&A-18, the loans comply with the conditions of paragraph (a) of
this Q&A-18 to constitute residential mortgage loans in the ordinary
course of an investment program.
(c) No loan that benefits an officer, director, or owner of
the employer maintaining the plan, or their beneficiaries, will be
treated as made under an investment program.
(d) This section does not provide guidance on whether a
residential mortgage loan made under a plan’s investment program
would result in a prohibited transaction under section 4975, or on
whether such a loan made by a plan covered by Title I of ERISA would
be consistent with the fiduciary standards of ERISA or would result
in a prohibited transaction under section 406 of ERISA. See 29 CFR
2550.408b-1.
Q-19: If there is a deemed distribution under section 72(p),
is the interest that accrues thereafter on the amount of the deemed
distribution an indirect loan for income tax purposes?
A-19: (a) General rule. Except as provided in paragraph (b)
of this Q&A-19, a deemed distribution of a loan is treated as a
distribution for purposes of section 72. Therefore, a loan that is
deemed to be distributed under section 72(p) ceases to be an
outstanding loan for purposes of section 72, and the interest that
accrues thereafter under the plan on the amount deemed distributed
is disregarded in applying section 72 to the participant or
beneficiary. Even though interest continues to accrue on the
outstanding loan (and is taken into account for purposes of
determining the tax treatment of any subsequent loan in accordance
with paragraph (b) of this Q&A-19), this additional interest is not
treated as an additional loan (and, thus, does not result in an
additional deemed distribution) for purposes of section 72(p).
However, a loan that is deemed distributed under section 72(p) is
not considered distributed for all purposes of the Internal Revenue
Code. See Q&A-11 through Q&A-16 of this section.
(b) Exception for purposes of applying section 72(p)(2)(A)
to a subsequent loan. In the case of a loan that is deemed
distributed under section 72(p) and that has not been repaid (such
as by a plan loan offset), the unpaid amount of such loan, including
accrued interest, is considered outstanding for purposes of applying
section 72(p)(2)(A) to determine the maximum amount of any
subsequent loan to the participant or beneficiary.
Q-20: May a participant refinance an outstanding loan or
have more than one loan outstanding from a plan?
A-20: [Reserved]
Q-21: Is a participant’s tax basis under the plan increased
if the participant repays the loan after a deemed distribution?
A-21: (a) Repayments after deemed distribution. Yes, if the
participant or beneficiary repays the loan after a deemed
distribution of the loan under section 72(p), then, for purposes of
section 72(e), the participant's or beneficiary’s investment in the
contract (tax basis) under the plan increases by the amount of the
cash repayments that the participant or beneficiary makes on the
loan after the deemed distribution. However, loan repayments are not
treated as after-tax contributions for other purposes, including
sections 401(m) and 415(c)(2)(B).
(b) Example. The following example illustrates the rules in
paragraph (a) of this Q&A-21 and is based on the assumptions
described in the introductory text of this section:
Example. (i) A participant receives a $20,000 loan on January
1, 2003, to be repaid in 20 quarterly installments of $1,245 each.
On December 31, 2003, the outstanding loan balance ($19,179) is
deemed distributed as a result of a failure to make quarterly
installment payments that were due on September 30, 2003 and
December 31, 2003. On June 30, 2004, the participant repays $5,147
(which is the sum of the three installment payments that were due on
September 30, 2003, December 31, 2003, and March 31, 2004, with
interest thereon to June 30, 2004, plus the installment payment due
on June 30, 2004). Thereafter, the participant resumes making the
installment payments of $1,245 from September 30, 2004 through
December 31, 2007. The loan repayments made after December 31, 2003
through December 31, 2007 total $22,577.
(ii) Because the participant repaid $22,577 after the deemed
distribution that occurred on December 31, 2003, the participant has
investment in the contract (tax basis) equal to $22,577 (14 payments
of $1,245 each plus a single payment of $5,147) as of December 31,
2007.
Q-22: When is the effective date of section 72(p) and the
regulations in this section?
A-22: (a) Statutory effective date. Section 72(p) generally
applies to assignments, pledges, and loans made after August 13,
1982.
(b) Regulatory effective date. This section applies to
assignments, pledges, and loans made on or after January 1, 2002.
(c) Loans made before the regulatory effective date--(1)
General rule. A plan is permitted to apply Q&A-19 and Q&A-21 of this
section to a loan made before the regulatory effective date in
paragraph (b) of this Q&A-22 (and after the statutory effective date
in paragraph (a) of this Q&A-22) if there has not been any deemed
distribution of the loan before the transition date or if the
conditions of paragraph (c)(2) of this Q&A-22 are satisfied with
respect to the loan.
(2) Consistency transition rule for certain loans deemed
distributed before the regulatory effective date. (i) The rules in
this paragraph (c)(2) of this Q&A-22 apply to a loan made before the
regulatory effective date in paragraph (b) of this Q&A-22 (and after
the statutory effective date in paragraph (a) of this Q&A-22) if
there has been any deemed distribution of the loan before the
transition date.
(ii) The plan is permitted to apply Q&A-19 and Q&A-21 of
this section to the loan beginning on any January 1, but only if the
plan reported, in Box 1 of Form 1099- R, for a taxable year no later
than the latest taxable year that would be permitted under this
section (if this section had been in effect for all loans made after
the statutory effective date in paragraph (a) of this Q&A-22), a
gross distribution of an amount at least equal to the initial
default amount. For purposes of this section, the initial default
amount is the amount that would be reported as a gross distribution
under Q&A-4 and Q&A-10 of this section and the transition date is
the January 1 on which a plan begins applying Q&A-19 and Q&A-21 of
this section to a loan.
(iii) If a plan applies Q&A-19 and Q&A-21 of this section to
such a loan, then the plan, in its reporting and withholding on or
after the transition date, must not attribute investment in the
contract (tax basis) to the participant or beneficiary based upon
the initial default amount.
(iv) This paragraph (c)(2)(iv) of this Q&A-22 applies if--
(A) The plan attributed investment in the contract (tax
basis) to the participant or beneficiary based on the deemed
distribution of the loan;
(B) The plan subsequently made an actual distribution to the
participant or beneficiary before the transition date; and
(C) Immediately before the transition date, the initial
default amount (or, if less, the amount of the investment in the
contract so attributed) exceeds the participant’s or beneficiary’s
investment in the contract (tax basis). If this paragraph (c)(2)(iv)
of this Q&A-22 applies, the plan must treat the excess (the loan
transition amount) as a loan amount that remains outstanding and
must include the excess in the participant’s or beneficiary’s income
at the time of the first actual distribution made on or after the
transition date.
(3) Examples. The rules in paragraph (c)(2) of this Q&A-22
are illustrated by the following examples, which are based on the
assumptions described in the introductory text of this section (and,
except as specifically provided in the examples, also assume that no
distributions are made to the participant and that the participant
has no investment in the contract with respect to the plan). Example
1, Example 2, and Example 4 of this paragraph (c)(3) of this Q&A-22
illustrate the application of the rules in paragraph (c)(2) of this
Q&A-22 to a plan that, before the transition date, did not treat
interest accruing after the initial deemed distribution as resulting
in additional deemed distributions under section 72(p). Example 3 of
this paragraph (c)(3) of this Q&A-22 illustrates the application of
the rules in paragraph (c)(2) of this Q&A-22 to a plan that, before
the transition date, treated interest accruing after the initial
deemed distribution as resulting in additional deemed distributions
under section 72(p). The examples are as follows:
Example 1. (i) In 1998, when a participant’s account balance
under a plan is $50,000, the participant receives a loan from the
plan. The participant makes the required repayments until 1999 when
there is a deemed distribution of $20,000 as a result of a failure
to repay the loan. For 1999, as a result of the deemed distribution,
the plan reports, in Box 1 of Form 1099-R, a gross distribution of
$20,000 (which is the initial default amount in accordance with
paragraph (c)(2)(ii) of this Q&A-22) and, in Box 2 of Form 1099-R, a
taxable amount of $20,000. The plan then records an increase in the
participant’s tax basis for the same amount ($20,000). Thereafter,
the plan disregards, for purposes of section 72, the interest that
accrues on the loan after the 1999 deemed distribution. Thus, as of
December 31, 2001, the total taxable amount reported by the plan as
a result of the deemed distribution is $20,000 and the plan’s
records show that the participant's tax basis is the same amount
($20,000). As of January 1, 2002, the plan decides to apply Q&A-19
of this section to the loan.
Accordingly, it reduces the participant's tax basis by the initial
default amount of $20,000, so that the participant’s remaining tax
basis in the plan is zero. Thereafter, the amount of the outstanding
loan is not treated as part of the account balance for purposes of
section 72. The participant attains age 59-1/2 in the year 2003 and
receives a distribution of the full account balance under the plan
consisting of $60,000 in cash and the loan receivable. At that time,
the plan’s records reflect an offset of the loan amount against the
loan receivable in the participant’s account and a distribution of
$60,000 in cash.
(ii) For the year 2003, the plan must report a gross
distribution of $60,000 in Box 1 of Form 1099-R and a taxable amount
of $60,000 in Box 2 of Form 1099-R.
Example 2. (i) The facts are the same as in Example 1,
except that in 1999, immediately prior to the deemed distribution,
the participant’s account balance under the plan totals $50,000 and
the participant’s tax basis is $10,000. For 1999, the plan reports,
in Box 1 of Form 1099-R, a gross distribution of $20,000 (which is
the initial default amount in accordance with paragraph (c)(2)(ii)
of this Q&A-22) and reports, in Box 2 of Form 1099-R, a taxable
amount of $16,000 (the $20,000 deemed distribution minus $4,000 of
tax basis ($10,000 times ($20,000/$50,000)) allocated to the deemed
distribution). The plan then records an increase in tax basis equal
to the $20,000 deemed distribution, so that the participant’s
remaining tax basis as of December 31, 1999, totals $26,000 ($10,000
minus $4,000 plus $20,000). Thereafter, the plan disregards, for
purposes of section 72, the interest that accrues on the loan after
the 1999 deemed distribution. Thus, as of December 31, 2001, the
total taxable amount reported by the plan as a result of the deemed
distribution is $16,000 and the plan’s records show that the
participant's tax basis is $26,000. As of January 1, 2002, the plan
decides to apply Q&A-19 of this section to the loan. Accordingly, it
reduces the participant's tax basis by the initial default amount of
$20,000, so that the participant’s remaining tax basis in the plan
is $6,000. Thereafter, the amount of the outstanding loan is not
treated as part of the account balance for purposes of section 72.
The participant attains age 59-1/2 in the year 2003 and receives a
distribution of the full account balance under the plan consisting
of $60,000 in cash and the loan receivable. At that time, the plan’s
records reflect an offset of the loan amount against the loan
receivable in the participant’s account and a distribution of
$60,000 in cash.
(ii) For the year 2003, the plan must report a gross
distribution of $60,000 in Box 1 of Form 1099-R and a taxable amount
of $54,000 in Box 2 of Form 1099-R.
Example 3. (i) In 1993, when a participant’s account balance
in a plan is $100,000, the participant receives a loan of $50,000
from the plan. The participant makes the required loan repayments
until 1995 when there is a deemed distribution of $28,919 as a
result of a failure to repay the loan. For 1995, as a result of the
deemed distribution, the plan reports, in Box 1 of Form 1099-R, a
gross distribution of $28,919 (which is the initial default amount
in accordance with paragraph (c)(2)(ii) of this Q&A- 22) and, in Box
2 of Form 1099-R, a taxable amount of $28,919. For 1995, the plan
also records an increase in the participant's tax basis for the same
amount ($28,919).
Each year thereafter through 2001, the plan reports a gross
distribution equal to the interest accruing that year on the loan
balance, reports a taxable amount equal to the interest accruing
that year on the loan balance reduced by the participant's tax basis
allocated to the gross distribution, and records a net increase in
the participant's tax basis equal to that taxable amount. As of
December 31, 2001, the taxable amount reported by the plan as a
result of the loan totals $44,329 and the plan’s records for
purposes of section 72 show that the participant's tax basis totals
the same amount ($44,329). As of January 1, 2002, the plan decides
to apply Q&A-19 of this section.
Accordingly, it reduces the participant's tax basis by the initial
default amount of $28,919, so that the participant’s remaining tax
basis in the plan is $15,410 ($44,329 minus $28,919). Thereafter,
the amount of the outstanding loan is not treated as part of the
account balance for purposes of section 72. The participant attains
age 59-1/2 in the year 2003 and receives a distribution of the full
account balance under the plan consisting of $180,000 in cash and
the loan receivable equal to the $28,919 outstanding loan amount in
1995 plus interest accrued thereafter to the payment date in 2003.
At that time, the plan’s records reflect an offset of the loan
amount against the loan receivable in the participant’s account and
a distribution of $180,000 in cash.
(ii) For the year 2003, the plan must report a gross
distribution of $180,000 in Box 1 of Form 1099-R and a taxable
amount of $164,590 in Box 2 of Form 1099-R ($180,000 minus the
remaining tax basis of $15,410).
Example 4. (i) The facts are the same as in Example 1,
except that in 2000, after the deemed distribution, the participant
receives a $10,000 hardship distribution. At the time of the
hardship distribution, the participant’s account balance under the
plan totals $50,000. For 2000, the plan reports, in Box 1 of Form
1099-R, a gross distribution of $10,000 and, in Box 2 of Form 1099-
R, a taxable amount of $6,000 (the $10,000 actual distribution minus
$4,000 of tax basis ($10,000 times ($20,000/$50,000)) allocated to
this actual distribution). The plan then records a decrease in tax
basis equal to $4,000, so that the participant’s remaining tax basis
as of December 31, 2000, totals $16,000 ($20,000 minus $4,000).
After 1999, the plan disregards, for purposes of section 72, the
interest that accrues on the loan after the 1999 deemed
distribution. Thus, as of December 31, 2001, the total taxable
amount reported by the plan as a result of the deemed distribution
plus the 2000 actual distribution is $26,000 and the plan’s records
show that the participant's tax basis is $16,000. As of January 1,
2002, the plan decides to apply Q&A-19 of this section to the loan.
Accordingly, it reduces the participant's tax basis by the initial
default amount of $20,000, so that the participant’s remaining tax
basis in the plan is reduced from $16,000 to zero. However, because
the $20,000 initial default amount exceeds $16,000, the plan records
a loan transition amount of $4,000 ($20,000 minus $16,000).
Thereafter, the amount of the outstanding loan, other than the
$4,000 loan transition amount, is not treated as part of the account
balance for purposes of section 72. The participant attains age
59-1/2 in the year 2003 and receives a distribution of the full
account balance under the plan consisting of $60,000 in cash and the
loan receivable. At that time, the plan’s records reflect an offset
of the loan amount against the loan receivable in the participant’s
account and a distribution of $60,000 in cash.
(ii) In accordance with paragraph (c)(2)(iv) of this Q&A-22,
the plan must report in Box 1 of Form 1099-R a gross distribution of
$64,000 and in Box 2 of Form 1099-R a taxable amount for the
participant for the year 2003 equal to $64,000 (the sum of the
$60,000 paid in the year 2003 plus $4,000 as the loan transition
amount).
Robert E. Wenzel,
Deputy Commissioner of Internal Revenue
Approved: 7/13/00
Jonathan Talisman
Deputy Assistant Secretary of the Treasury
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