The proposed regulations had said that a deemed distribution would occur if a participant obtains more than two loans a year, even though section 72(p)(2) has no specific prohibition on borrowing from a plan more than once a year. Comments were received on both sides of the issue, from those wanting to reign in rampant participant utilization of the loan feature, and others emphasizing the need for flexibility, and the fact that many plans already impose limits on the number of loans within that structure.
Credit Card Loans OK
Ultimately the final regulations impose no limits on the number of loans that may be taken, and acknowledged that because the final regulations do not include any limitation on the number of loans that can be made, there will be no section 72(p) barrier to credit card loans that otherwise meet the requirements of that section.
Section 72(p)(1)(A) of the Internal Revenue Code provides that a loan from a qualified employer plan to a participant or beneficiary is treated as a distribution from the plan for income tax purposes, unless it complies with certain exceptions contained in the aforementioned section 72 (p)(2) – largely that if it adheres to specific availability, repayment term and amount criteria.
While the final regulations retained much of the structure of the proposed rules, there were some clarifications and modifications, based on comments received on the issue of extending repayment periods to accommodate military service. Specifically, the IRS clarified that loan repayments can be revised at the end of a military leave to extend the repayment schedule in the event the loan originally had a term of fewer than five years.
At least one commentator was concerned that simply extending the repayment period to cover the length of military service, but continuing to accrue interest during that period would place a financial burden on the participant – and requested that the repayment period be extended to be the period necessary to repay the loan in the same amounts as before the leave. Another asked that the same extension be permitted as for other bona fide leave of absences. However, both the DOL and IRS said that these requests would not meet the requirements of section 72(p)(2) – and the final regulations clarify that loan repayments can be revised at the end of a military leave to extend the repayment schedule in the event the loan originally had a term of fewer than five years.
The proposed regulations also said that if a participant had a loan that was deemed distributed, and had not been repaid, then any subsequent “loans” to that participant would not be treated as a loan for purposes of section 72(p)(2) – in other words, it would represent a taxable distribution to the participant – and might constitute an impermissible distribution under the terms of the plan.
There were also concerns expressed by issuers of loans about their responsibility for reporting such distributions as loans on Form 1099-R in situations involving deemed distributions. The final regulations remind issuers that they can condition new loans on participant disclosures about prior loans – and can rely on employee certification of that status, assuming there is no reason to doubt the employee.
The final regulations note that IRS and the Treasury Department are considering the extent to which notices under the various requirements relating to qualified retirement plans can be provided electronically, taking into account the effect of ESIGN – and anticipate issuing proposed regulations regarding these issues, and inviting comments on these issues, in the future.
The final regulations are effective Dec. 3, 2002, and apply to assignments, pledges, and loans made on or after Jan. 1, 2004.