A plan loan offset occurs when a participant's account balance (or accrued benefit) is reduced to pay a defaulted loan. This may occur when the terms governing a plan loan require that the loan be repaid immediately or treated as in default as a result of certain events, such as an employee's termination. A Qualified Plan Loan Offset (QPLO) is a type of plan loan offset that meets certain requirements. This Issue Snapshot summarizes plan loan offsets and QPLOs. IRC Sections and Treasury Regulations IRC Section 72(p) IRC Section 401(a)(31) IRC Section 401(k)(2)(B) IRC Section 402(c)(3) IRC Section 403(b)(11) IRC Section 3405 Treas. Reg. Section 1.72(p)-1 Treas. Reg. Section 1.401(a)(31)-1 Treas. Reg. Section 1.401(k)-1(d)(2) Treas. Reg. Section 1.402(c)-3 Treas. Reg. Section 31.3405(c)-1 Treas. Reg. Section 301.9100-2 Resources Issue Snapshot, Deemed Distributions – Participant Loans Issue Snapshot, Borrowing Limits for Participants with Multiple Loans Issue Snapshot, Plan Loan Cure Period Section 13613 of the Tax Cuts and Jobs Act (Public Law 115-97, Dec. 22, 2017) Retirement Plans FAQs Regarding Loans Analysis Plan loan offset Treas. Reg. Section 1.72(p)-1, Q&A-13(a)(2) provides that a distribution of a plan loan offset amount occurs when, under the plan terms governing a plan loan, a participant's accrued benefit is reduced (offset) in order to repay the loan (including the enforcement of the plan's security interest in the participant's accrued benefit). A distribution of a plan loan offset amount can occur in a variety of circumstances. For example, a plan loan offset can occur where the terms governing a plan loan require that, in the event of a participant's termination of employment or request for a distribution, the loan be repaid immediately or treated as in default. Treas. Reg. Section 1.72(p)-1, Q&A-13(b) provides that, 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 (IRC), not a deemed distribution under IRC Section 72(p). (For more information on deemed distributions, please see the Issue Snapshots in the Resources section above.) Accordingly, a plan may be prohibited from making a plan loan offset under the provisions of IRC Sections 401(a), 401(k)(2)(B), 403(b)(7)(A)(i), 403(b)(11) or 457(d)(1)(A) prohibiting or limiting distributions to an active employee. Rollover of plan loan offset distributions IRC Section 402(c)(3)(A) provides that any amount distributed from a qualified plan will be excluded from income if it is transferred to an eligible retirement plan no later than the 60th day following the day the distribution is received. Treas. Reg. Section 1.402(c)-3(a)(2)(i)(A) provides that, in general, plan loan offset distribution amounts are eligible rollover distributions. QPLOs and the extended rollover period IRC Section 402(c)(3)(A)(i) and Treas. Reg. Section 1.402(c)-3(a)(2)(iii)(B) provide that a QPLO amount is a plan loan offset amount that satisfies the following requirements: The plan loan offset amount is treated as distributed from a qualified employer plan (as defined in IRC Section 72(p)(4)) to an employee or beneficiary solely by reason of the termination of the qualified employer plan, or the failure to meet the repayment terms of the loan because of the severance from employment of the employee; and The plan loan offset amount relates to a plan loan that met the requirements of IRC Section 72(p)(2) immediately prior to the termination of the qualified employer plan or the severance from employment of the employee. Treas. Reg. Section 1.402(c)-3(a)(2)(iv)(A) provides that whether an employee has a severance from employment with the employer that maintains a qualified employer plan is determined in the same manner as Treas. Reg. Section 1.401(k)-1(d)(2), which provides that an employee has a severance from employment when the employee ceases to be an employee of the employer maintaining the plan. An employee does not have a severance from employment if, in connection with a change of employment, the employee's new employer maintains such plan with respect to the employee. For example, a new employer maintains a plan with respect to an employee by continuing or assuming sponsorship of the plan or by accepting a transfer of plan assets and liabilities (within the meaning of section 414(l)) with respect to the employee. Treas. Reg. Section 1.402(c)-3(a)(2)(iv)(B) provides that a plan loan offset amount is treated as distributed from a qualified employer plan to an employee or beneficiary solely by reason of the failure to meet the plan loan repayment terms because of severance from employment if the plan loan offset: Relates to a failure to meet the repayment terms of the plan loan; and Occurs within the period beginning on the date of the employee's severance from employment and ending on the first anniversary of that date (i.e., within 12 months of the employee's severance from employment). IRC Section 402(c)(3)(C)(i) provides that a distribution of a QPLO may be rolled over by the participant (or spousal distributee) to an eligible retirement plan by the individual's tax filing due date (including extensions) for the taxable year in which the offset is treated as distributed from a qualified employer plan. The individual can obtain a six-month extension of time to complete the rollover (typically from April 15 to October 15) by obtaining an extension of time to file his or her individual income tax return. Even if the individual does not request an extension to file his or her individual income tax return, but instead files the return by the unextended tax filing due date, the individual will have an extended period past his or her tax filing due date to complete the rollover of the QPLO amount if the conditions of Treas. Reg. Section 301.9100-2(b) are satisfied. Treas. Reg. Section 301.9100-2(b) provides rules for automatic six-month extensions to make regulatory or statutory elections. Under this rule, a taxpayer will receive an automatic extension of 6 months from the due date of a return, excluding extensions, to make elections that otherwise must be made by the due date of the return plus extensions, provided that: The taxpayer's return was timely filed for the year the election should have been made; and The taxpayer takes appropriate corrective action within the six-month period. Example: On June 1, 2020, Taxpayer A has an eligible rollover distribution of $10,000 that is a QPLO amount. She may be able to roll over the $10,000 amount as late as October 15, 2021. Pursuant to Treas. Reg. Section 301.9100–2(b), this automatic six-month extension applies if Taxpayer A timely files her tax return, rolls over the QPLO amount on or before October 15, 2021, and amends her return by October 15, 2021, as necessary to reflect the rollover. Rollover of plan loan offset, including QPLO, distributions Treas. Reg. Section 1.401(a)(31), Q&A-1(a) states that, to satisfy IRC Section 401(a)(31), a plan must provide that if the distributee of any eligible rollover distribution elects to have the distribution paid directly to an eligible retirement plan, and specifies the eligible retirement plan to which the distribution is to be paid, then the distribution will be paid to the eligible retirement plan in a direct rollover. However, there is an exception for a plan loan offset, including a QPLO distribution. A plan will not fail to satisfy IRC Section 401(a)(31) merely because the plan does not permit a distributee to elect a direct rollover of an eligible rollover distribution in the form of a plan loan offset amount, including a QPLO amount. See generally Treas. Reg. Sections 1.401(a)(31)-1, Q&A-16 and 1.402(c)-3(a)(2)(i)(B) and (v)(A) (Example 1). Withholding rules for plan loan offset, including QPLO, distributions As noted above, Treas. Reg. Section 1.402(c)-3(a)(2)(i)(A) provides that plan loan offset distribution amounts are generally eligible rollover distributions. Pursuant to IRC Section 3405(c), an eligible rollover distribution, as defined in IRC Section 402(f)(2)(A), is subject to 20-percent withholding. Treas. Reg. Section 31.3405(c)-1, Q&A-1(a) provides, in part, that any designated distribution that is an eligible rollover distribution is subject to income tax withholding at the rate of 20 percent unless the distributee of the eligible rollover distribution elects to have the distribution paid directly to an eligible retirement plan in a direct rollover. There are special rules for applying the 20-percent withholding requirement to plan loan offset amounts distributed in an eligible rollover distribution. Treas. Reg. Section 1.72(p)-1, Q&A-15 provides that if 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. Treas. Reg. Section 31.3405(c)-1, Q&A-11 provides that, although plan loan offset amounts must be included in the total amount that is subject to the 20-percent income tax withholding requirement, the total amount required to be withheld for an eligible rollover distribution is limited to the amount of cash and the fair market value of property (excluding employer securities) received by the distributee, excluding any amount of the distribution that is a plan loan offset amount. Thus, if the only portion of an eligible rollover distribution that is not paid in a direct rollover consists of a plan loan offset amount, withholding is not required. QPLO Examples Example 1: In 2020, Employee A, age 60, has an account balance of $10,000 in Plan Y, of which $3,000 is invested in a plan loan to Employee A that is secured by Employee A's account balance in Plan Y. Employee A has made no after-tax contributions to Plan Y. The plan loan meets the requirements of IRC Section 72(p)(2). Plan Y does not provide any direct rollover option with respect to plan loans. Employee A severs from employment on June 15, 2020. After severance from employment, Plan Y accelerates the plan loan and provides Employee A 90 days to repay the remaining balance of the plan loan. Employee A does not repay the loan within the 90 days and instead elects a direct rollover of Employee A's entire account balance in Plan Y. On September 18, 2020 (within the 12-month period beginning on the date that Employee A severed from employment), Employee A's outstanding loan is offset against the account balance. Plan Y pays $7,000 ($10,000 reduced by the $3,000 plan loan offset) directly to the eligible retirement plan chosen by Employee A. The $3,000 plan loan offset is a QPLO because: It relates to a failure to meet the repayment terms of the plan loan that occurred within 12 months of Employee A's severance from employment; and The plan loan offset amount relates to a plan loan that met the requirements of IRC Section 72(p)(2) immediately prior to the severance from employment of Employee A. Employee A may roll over up to the $3,000 QPLO amount to an eligible retirement plan within the period that ends on the employee's tax filing due date (including extensions) for the taxable year in which the offset occurs. Employee A will be subject to income tax on the $3,000 QPLO distribution unless Employee A transfers $3,000 from other resources to an eligible retirement plan by the due date of Employee A's individual income tax return (including extensions) for 2020. In order to satisfy IRC Section 401(a)(31), Plan Y must make a direct rollover by paying $7,000 directly to the eligible retirement plan chosen by Employee A. When Employee A's account balance was offset by the amount of the $3,000 unpaid loan balance, Employee A received a plan loan offset amount (equivalent to $3,000) that is an eligible rollover distribution. However, under Treas. Reg. Section 1.401(a)(31)-1, Q&A-16, Plan Y satisfies IRC Section 401(a)(31), even though a direct rollover option was not provided with respect to the $3,000 plan loan offset amount. No withholding is required under IRC Section 3405(c) on account of the distribution of the $3,000 plan loan offset amount because no cash or other property (other than the plan loan offset amount) was received by Employee A. Example 2: The facts are the same as in Example 1, except that Employee A elects to receive a cash distribution of the account balance that remains after the $3,000 plan loan offset amount, instead of electing a direct rollover of the remaining account balance. The $3,000 plan loan offset is still a QPLO because: It relates to a failure to meet the repayment terms of the plan loan that occurred within 12 months of Employee A's severance from employment; and The plan loan offset amount relates to a plan loan that met the requirements of IRC Section 72(p)(2) immediately prior to the severance from employment of Employee A. The amount of the distribution received by Employee A is $10,000 ($3,000 relating to the plan loan offset and $7,000 relating to the cash distribution). Because the amount of the $3,000 plan loan offset amount attributable to the loan is included in determining the amount of the eligible rollover distribution to which withholding applies, withholding in the amount of $2,000 (20 percent of $10,000) is required under IRC Section 3405(c). The $2,000 is required to be withheld from the $7,000 to be distributed to Employee A in cash, so that Employee A actually receives a cash amount of $5,000. Employee A may roll over up to the $3,000 QPLO amount to an eligible retirement plan within the period that ends on Employee A's tax filing due date (including extensions) for the taxable year in which the offset occurs. Employee A may roll over up to $7,000 (the portion of the distribution that is not related to the offset) within the 60-day period provided in IRC Section 402(c)(3). Employee A will be subject to income tax on $10,000 ($3,000 QPLO distribution and the $7,000 cash distribution) unless Employee A transfers to an eligible retirement plan: The $5,000 cash distribution that was actually received within the 60-day period provided in IRC Section 402(c)(3); $2,000 (attributable to withholding) from other resources within the 60-day period provided in IRC Section 402(c)(3); and $3,000 (attributable to the QPLO distribution) from other resources by the due date of Employee A's individual income tax return (including extensions) for 2020. See Treas. Reg. Section 1.402(c)-3(a)(2)(v) for additional examples that illustrate the rules with respect to plan loan offset amounts including QPLOs. Reporting plan loan offset and QPLO distributions Plan administrators must report plan loan offset distributions and QPLO distributions on Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. ("Form 1099-R"). The instructions to Form 1099-R state that, if a participant's accrued benefit is reduced (offset) to repay a loan, the amount of the account balance that is offset against the loan is an actual distribution. The instructions direct administrators to report a plan loan offset distribution in the same manner as any other actual distribution. Administrators are cautioned not to enter Code L in box 7 of Form 1099-R. (Note: Code L is reserved for loans treated as deemed distributions). The instructions to Form 1099-R provide that a QPLO is a type of plan loan offset that meets certain requirements. The instructions further require that a QPLO should be reported as one would any other actual distribution. In addition, the administrator would enter Code M in box 7 of Form 1099-R. Plan administrators must report any QPLOs on Form 1099-R for QPLO distributions made in 2021 and later. Plan administrators also had the option of reporting QPLO distributions on the 2020 Form 1099-R, with respect to QPLO distributions made on or after August 20, 2020. Issue indicators or audit tips All plan loan offsets are actual distributions and, like other actual distributions, must be evaluated to ascertain whether they are made pursuant to permissible distributable events. Evaluate whether the in-service distribution is permissible under the terms of the plan and IRC. For QPLOs, evaluate whether the conditions for a QPLO have been satisfied and ascertain whether the participant was entitled to the extended rollover period accorded to QPLOs. Ascertain whether plan loan offsets, including QPLOs, are properly reported on Forms 1099-R.
