Amounts Received Under the Plan

<div class="Section1"><br /> <br /> To avoid treatment as a deemed distribution, a loan must be evidenced by a legally enforceable agreement, which may include more than one document, set forth either in writing or in an electronic medium specifying the amount of the loan, the term of the loan, and the repayment schedule.<br /> <br /> The agreement does not have to be signed if it is enforceable under applicable law without being signed.<a href="#_ftn1" name="_ftnref1">¹</a><br /> <br /> If the agreement is set forth in an electronic medium, it must be one that is reasonably accessible to the participant and provided under a system that is reasonably designed to preclude anyone other than the participant from requesting a loan, provides the participant with a reasonable opportunity to review, confirm, modify, or rescind the terms of the loan before it is made, and provides the participant with confirmation of the loan terms within a reasonable time after it is made. The confirmation may be provided in an electronic format or in a written paper document. If it is provided electronically, it must be done in a manner that is no less understandable to a participant than a written document; at the time a confirmation is provided, a participant must be advised that he or she may request and receive a written paper document at no charge.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> </div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.  Treas. Reg. § 1.72(p)-1, A-3(b).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.  Treas. Reg. § 1.72(p)-1, A-3(b).<br /> <br /> </div>

<div class="Section1">Yes, but only certain distributions may be rolled over ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="4007">4007</a>, Q <a href="javascript:void(0)" class="accordion-cross-reference" id="4014">4014</a>).<a href="#_ftn1" name="_ftnref1">¹</a><div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; See IRC &sect;&sect; 402(c)(2)(A), 402(c)(11).<br /> <br /> </div></div><br />

<div class="Section1"><br /> <br /> Where a participant receives multiple loans, each such loan must separately satisfy IRC Section 72(p), taking into account the outstanding balance of each existing loan. Under the final loan regulations, there is no limit on the number of loans a participant is permitted to take out.<a href="#_ftn1" name="_ftnref1">¹</a><br /> <br /> </div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.  Treas. Reg. § 1.72(p)-1, A-20(a)(3).<br /> <br /> </div>

<div class="Section1"><br /> <br /> Loans to participants can give rise to two kinds of taxable distributions: deemed distributions under IRC Section&nbsp;72(p) and actual distributions. As noted in Q <a href="javascript:void(0)" class="accordion-cross-reference" id="4063">4063</a>, sham loans are treated as actual distributions. Even bona fide loans can result in actual distributions through distributions of plan loan offset amounts.<br /> <br /> 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 (<em><em>see</em> </em> Q <a href="javascript:void(0)" class="accordion-cross-reference" id=""></a> for a discussion of plan loan offsets post-tax reform).<a href="#_ftn1" name="_ftnref1">¹</a> 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 <a href="javascript:void(0)" class="accordion-cross-reference" id="4035">4035</a>).<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.&nbsp; Treas. Reg. &sect;&nbsp;1.72(p)-1, A-13. <em><em>See also</em></em> Treas. Reg. &sect;&nbsp;1.403(b)-6(f), stating that a plan loan offset is a distribution. Compare <em>Caton v. Comm.</em>, TC Memo 1995-80.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.&nbsp; Treas. Reg. &sect;&nbsp;1.72(p)-1, A-13(b).<br /> <br /> </div></div><br />

<div class="Section1"><br /> <br /> Interest on a loan not treated as a distribution ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="4063">4063</a>) made, renewed, renegotiated, modified, or extended after December 31, 1986, is not deductible. No basis is created in a participant&rsquo;s account with respect to nondeductible interest paid to a plan.<a href="#_ftn1" name="_ftnref1">¹</a><br /> <br /> Interest paid on amounts borrowed under a retirement plan for the purchase or improvement of a principal residence is deductible as qualified residence interest if the loan is secured by a recorded deed of trust, is not the participant&rsquo;s account balance,<a href="#_ftn2" name="_ftnref2">²</a> and is deductible. Because custodial accounts and annuity carriers typically are unable to perfect a security interest, interest on these types of loans from 403(b) arrangements will not be deductible.<br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.&nbsp; General Explanation of TRA &rsquo;86, p.&nbsp;729.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.&nbsp; Let. Ruls. 8935051, 8742025; <em><em>see also</em> Earnshaw v. Comm.</em>, TC Memo 1995-156.<br /> <br /> </div></div><br />

<div class="Section1"><br /> <br /> Yes.<br /> <br /> Plan participants may exclude from income amounts directly transferred from an IRC Section 403(b) tax sheltered annuity to a governmental defined benefit plan that are used to purchase permissive service credit. Likewise, a participant may use directly transferred amounts to repay contributions or earnings that previously were refunded because of a forfeiture of service credit under either the transferee plan or an IRC Section 403(b) tax sheltered annuity maintained by a governmental employer in the same state.<a href="#_ftn1" name="_ftnref1">¹</a><br /> <br /> PPA 2006 modifies the definition of permissive service credit. Under the new definition, “permissive service credit” means service credit that relates to benefits to which a participant is not otherwise entitled under a governmental plan, rather than service credit that a participant has not received under a plan.<br /> <br /> Credit qualifies as permissive service credit if it is purchased to provide an increased benefit for a period of service already credited under the plan (e.g., if a lower level of benefit is converted to a higher benefit level otherwise offered under the same plan) as long as it relates to benefits to which the participant is not otherwise entitled.<br /> <br /> PPA 2006 also allows participants to purchase credit for periods regardless of whether service is subject to the limits on nonqualified service. Under the provision, service as an employee of an educational organization providing elementary or secondary education can be determined under the law of the jurisdiction in which the service was performed. Thus, for example, permissive service credit can be granted for time spent teaching outside of the U.S. without being considered nonqualified service credit.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> The limits regarding nonqualified service are not applicable in determining whether a plan to plan transfer from a Section 403(b) annuity to a governmental defined benefit plan is for the purchase of permissive service credit. Thus, the failure of the transferee plan to satisfy the limits does not cause the transferred amounts to be included in the participant’s income. The transferee plan must satisfy the limits in providing permissive service credit as a result of<br /> the transfer.<br /> <br /> Plan-to-plan transfers under IRC Section 403(b)(13) may be made regardless of whether a transfer is made between plans maintained by the same employer. The provision also provides that amounts transferred from a Section 403(b) annuity to a governmental defined benefit plan to purchase permissive service credit are subject to distribution rules applicable under the IRC to the defined benefit plan.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> </div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.  IRC §§ 403(b)(13), 457(e)(17). <em><em>See also</em></em> Treas. Reg. § 1.403(b)-10(b)(4).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.  IRC § 415(n)(3).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>.  IRC § 415(n)(3)(d).<br /> <br /> </div>

<div class="Section1"><br /> <br /> To avoid treatment as a deemed distribution, a loan by its terms must be required to be repaid within five years. A loan used to acquire a dwelling that within a reasonable time is to be used as the participant&rsquo;s principal residence (as defined in IRC Section&nbsp;121) is not subject to the five year repayment term requirement.<a href="#_ftn1" name="_ftnref1">¹</a> Although the IRC puts no specific limit on the term of principal residence loans, it is likely that the IRS will impose at least a reasonable term on the theory that a loan is not in fact a loan if there is no obligation to repay.<a href="#_ftn2" name="_ftnref2">²</a> A loan need not be secured by the dwelling that is to be the participant&rsquo;s principal residence to qualify as a principal residence loan exempt from the five year term requirement,<a href="#_ftn3" name="_ftnref3">³</a> <em><em>but see</em></em> Q <a href="javascript:void(0)" class="accordion-cross-reference" id="4073">4073</a> if there is a desire to render the interest on the loan deductible as qualified residence interest.<br /> <br /> Tracing rules under IRC Section&nbsp;163(h)(3)(B) apply in determining whether a loan is treated as for the acquisition of a principal residence and, therefore, exempt from the five year term requirement.<a href="#_ftn4" name="_ftnref4">⁴</a><br /> <br /> Finally, a refinancing generally cannot qualify as a principal residence loan exempt from the five year term requirement. A loan used to repay a loan from a third party will qualify as a principal residence loan if it qualifies as such a loan without regard to the loan from the third party.<a href="#_ftn5" name="_ftnref5">⁵</a><br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.&nbsp; IRC &sect;&nbsp;72(p)(2)(B); Treas. Reg. &sect;&nbsp;1.72(p)-1, A-5.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.&nbsp; Compare Treas. Reg. &sect;&nbsp;1.72(p)-1, A-17, above. <em><em>But see</em> Dean v. Comm.</em>, 35 TC 1083 (1961), nonacq. 1973 AOD LEXIS 238 (1973) (suggesting that the term of principal residence loans extends to maturity of the tax sheltered annuity contract; deciding treatment of principal residence loans taken out before effective date of level amortization requirement). <em><em>See also</em></em> the example under Treas. Reg. &sect;&nbsp;1.72(p)-1, A-8 (involving the application of the tracing requirement to a 15 year loan used to repay a bank loan for the purchase of a principal residence).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>.&nbsp; Treas. Reg. &sect;&nbsp;1.72(p)-1, A-6.<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>.&nbsp; Treas. Reg. &sect;&nbsp;1.72(p)-1, A-7.<br /> <br /> <a href="#_ftnref5" name="_ftn5">5</a>.&nbsp; Treas. Reg. &sect;&nbsp;1.72(p)-1, A-8.<br /> <br /> </div></div><br />

<div class="Section1"><br /> <br /> The entire amount of a loan will be treated as a distribution from the outset if the terms of the loan do not satisfy the repayment term requirement or the level amortization requirement, or if the loan is not evidenced by an appropriate enforceable agreement.<a href="#_ftn1" name="_ftnref1">¹</a><br /> <br /> If a loan satisfies the other requirements but the amount loaned exceeds the applicable dollar limitation, the amount of the loan in excess of the limit is a deemed distribution at the time the loan is made.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> If a loan initially satisfies all of the requirements to avoid treatment as a deemed distribution but payments are not made in accordance with the terms of the loan, a deemed distribution of the entire outstanding balance, including accrued interest, generally results at the time of such failure.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> A plan may provide a cure period (referred to as a grace period under the proposed regulations) for payments so long as the cure period does not extend beyond the last day of the calendar quarter following the calendar quarter in which the required payment was due. A failure to make a payment will not trigger a deemed distribution of the outstanding balance until the end of the cure period.<a href="#_ftn4" name="_ftnref4">⁴</a><br /> <br /> Once a loan is deemed distributed under IRC Section 72(p), the interest that accrues on that loan is not included in income for purposes of determining the amount that is taxable under IRC Section 72. In addition, neither the income that results from the deemed distribution nor the interest that accrues thereafter increases the participant’s investment or tax basis in the contract under IRC Section 72. To the extent the deemed distribution is repaid, his or her investment in the contract will be increased.<a href="#_ftn5" name="_ftnref5">⁵</a><br /> <br /> A loan that is deemed distributed under IRC Section 72(p), including interest accruing thereafter, and that has not been repaid (such as by a plan loan offset) still is considered outstanding for purposes of determining the maximum amount of any subsequent loans to the participant or the beneficiary.<a href="#_ftn6" name="_ftnref6">⁶</a> Thus, for example, the amount limitation would be reduced by an outstanding loan even after a deemed distribution has occurred. To the extent that a participant repays by cash any portion of a loan that has been deemed distributed, the participant acquires a tax basis in the contract in the same manner as if the repayments were after-tax contributions; however, loan repayments are not treated as after-tax contributions for other purposes, including the nondiscrimination requirements and IRC Section 415 limits.<a href="#_ftn7" name="_ftnref7">⁷</a><br /> <br /> <hr /><br /> <br /> <strong>Planning Point:</strong> The 2017 tax reform legislation modified the treatment of plan loan offsets in certain circumstances. Plan participants with outstanding loans now have until their tax filing deadline (rather than 60 days) to roll the plan loan offset amount into another tax-preferred retirement account and avoid taxation as a deemed distribution, if the amount would be treated as distributed because (1) the plan was terminated or (2) the participant failed to meet the loan repayment terms because of a separation from employment (if the plan provides that the accrued unpaid loan amount must be offset at this time).<br /> <br /> <hr /><br /> <br /> The final loan regulations place two conditions on loans made while the loan treated as a distribution remains unpaid.<br /> <br /> First, the subsequent loan must be repayable under a payroll withholding arrangement enforceable under applicable law. This arrangement may be revocable, but if the participant revokes it, the outstanding balance of the loan is treated as a deemed distribution.<br /> <br /> Second, the participant must provide the plan with adequate security in the form of collateral for the loan in addition to the participant’s accrued benefit. If, for any reason, the additional collateral is no longer in force before the subsequent loan is repaid, the outstanding balance of the subsequent loan is treated as a deemed distribution. If these conditions are not satisfied, the entire subsequent loan is treated as a distribution under IRC Section 72(p).<a href="#_ftn8" name="_ftnref8">⁸</a><br /> <br /> Where a loan fee is withheld from net loan proceeds actually received by a participant but is included in a participant’s outstanding loan balance, the deemed distribution on a default may include the withheld loan fee.<a href="#_ftn9" name="_ftnref9">⁹</a><br /> <br /> </div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.  Treas. Reg. § 1.72(p)-1, A-4(a); <em><em>see</em></em> IRC §§ 72(p)(1), 72(p)(2); <em>Estate of Gray v. Comm.</em>, TC Memo 1995-421.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.  Treas. Reg. § 1.72(p)-1, A-4(a); <em><em>see</em></em> IRC §§ 72(p)(1), 72(p)(2).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>.  Treas. Reg. §§ 1.72(p)-1, A-4(a), 1.72(p)-1, A-10(b).<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>.  Treas. Reg. §§ 1.72(p)-1, A-4(a), 1.72(p)-1, A-10(a).<br /> <br /> <a href="#_ftnref5" name="_ftn5">5</a>.  Treas. Reg. §§ 1.72(p)-1, A-19(a), 1.72(p)-1, A-21(a).<br /> <br /> <a href="#_ftnref6" name="_ftn6">6</a>.  Treas. Reg. § 1.72(p)-1, A-19(b)(1).<br /> <br /> <a href="#_ftnref7" name="_ftn7">7</a>.  Treas. Reg. § 1.72(p)-1, A-21(a).<br /> <br /> <a href="#_ftnref8" name="_ftn8">8</a>.  Treas. Reg. § 1.72(p)-1, A-19(b).<br /> <br /> <a href="#_ftnref9" name="_ftn9">9</a>.  <em>Earnshaw v. Comm.</em>, TC Memo 1995-156.<br /> <br /> </div>

<div class="Section1"><br /> <br /> A refinancing transaction is any transaction in which one loan replaces another. For example, a refinancing may exist if the outstanding loan amount is increased or if the interest rate or the repayment term of the loan is renegotiated.<a href="#_ftn1" name="_ftnref1">¹</a><br /> <br /> If the term of a replacement loan ends after the latest permissible term of the loan it replaces, then both loans are treated as outstanding on the date of the refinancing transaction. This generally means that the loans must collectively satisfy the requirements of IRC Section 72(p) when determining whether the loans will constitute deemed distributions.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> There is an exception where the replacement loan would satisfy IRC Section 72(p)(2) if it were treated as two separate loans. Under this exception, the amount of the replaced loan, amortized in substantially level payments over a period ending not later than the last day of the latest permissible term of the replaced loan, is treated as one loan. The other loan is for an amount equal to the difference between the amount of the replacement loan and the outstanding balance of the replaced loan.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> The IRS will not view the transaction as circumventing IRC Section 72(p) provided that the replacement loan effectively amortizes an amount equal to the replaced loan over a period ending not later than the last day of the latest permissible term of the replaced loan. For this reason, the outstanding balance of the replaced loan need not be taken into account in determining whether the limitations of IRC Section 72(p)(2) have been met; only the amount of the replacement loan plus any existing loans that are not being replaced are considered.<a href="#_ftn4" name="_ftnref4">⁴</a><br /> <br /> If the term of a replacement loan does not end later than the latest permissible term of the replaced loan, then only the amount of the replacement loan plus the outstanding balance of any existing loans that are not being replaced must be taken into account in determining whether IRC Section 72(p) has been satisfied.<a href="#_ftn5" name="_ftnref5">⁵</a><br /> <br /> </div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.  Treas. Reg. § 1.72(p)-1, A-20(a).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.  Treas. Reg. § 1.72(p)-1, A-20(a)(2).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>.  Treas. Reg. § 1.72(p)-1, A-20(a)(2).<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>.  Treas. Reg. § 1.72(p)-1, A-20(a)(2).<br /> <br /> <a href="#_ftnref5" name="_ftn5">5</a>.  Treas. Reg. § 1.72(p)-1, A-20(a)(1).<br /> <br /> </div>

<div class="Section1"><br /> <br /> If a loan is treated as a deemed distribution, it is includable in gross income ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="4088">4088</a>) as if it were an actual distribution.<a href="#_ftn1" name="_ftnref1">¹</a> A loan treated as a deemed distribution may be subject to the 10 percent tax on early distributions imposed by IRC Section&nbsp;72(t) ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="4074">4074</a>) as if it were an actual distribution.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> To the extent a loan, when made, is a deemed distribution or an account balance is reduced to repay a loan, apparently at the time a loan is made, the amount includable in income is subject to withholding. If a deemed distribution or a loan repayment by benefit offset results in income after the date the loan is made, withholding is required only if a transfer of cash or property excluding employer securities is made from the plan at the same time.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> Deemed distributions under IRC Section&nbsp;72(p) are not eligible rollover distributions and are not subject to the mandatory 20 percent withholding applicable to certain eligible rollover distributions.<a href="#_ftn4" name="_ftnref4">⁴</a> Plan loan offset amounts can be eligible rollover distributions.<a href="#_ftn5" name="_ftnref5">⁵</a> For withholding rules relevant to plan loan offset amounts that are eligible rollover distributions, <em><em>see</em> </em>Treasury Regulation Section&nbsp;31.3405(c)-1, especially A-11.<br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.&nbsp; Treas. Reg. &sect;&nbsp;1.72(p)-1, A-11(a).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.&nbsp; Treas. Reg. &sect;&nbsp;1.72(p)-1, A-11(b); <em><em>see also</em> Dean v. Comm.</em>, 35 TC 1083 (1961), nonacq. 1973 AOD LEXIS 238 (1973).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>.&nbsp; Treas. Reg. &sect;&nbsp;1.72(p)-1, A-15. For further guidance on withholding rules, <em><em>see</em></em> Temp. Treas. Reg. &sect;&nbsp;35.3405-1T, Q&amp;A F-4 and Treas. Reg. &sect;&sect;&nbsp;31.3405(c)-1, A-9, and 31.3405(c)-1, A-11.<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>.&nbsp; Treas. Reg. &sect;&sect;&nbsp;1.402(c)-2, A-4, 31.3405(c)-1, A-1(a); Treas. Reg. &sect;&nbsp;1.72(p)-1, A-12.<br /> <br /> <a href="#_ftnref5" name="_ftn5">5</a>.&nbsp; Treas. Reg. &sect;&nbsp;1.402(c)-2, A-9.<br /> <br /> </div></div><br />