4071 / When are amounts borrowed under a tax sheltered annuity taxable income as actual distributions?

Loans to participants can give rise to two kinds of taxable distributions: deemed distributions under IRC Section 72(p) and actual distributions. As noted in Q 4063, sham loans are treated as actual distributions. Even bona fide loans can result in actual distributions through distributions of plan loan offset amounts.

A distribution of a plan loan offset amount occurs when the accrued benefit of the participant is reduced or offset to repay the loan. The amount of the account balance that is offset against the loan is an actual distribution of plan benefits (see Q for a discussion of plan loan offsets post-tax reform).¹ Accordingly, a plan may be prohibited from making such an offset under the distribution restrictions of IRC Sections 403(b)(7) and 403(b)(11) ( Q 4035).²