Legal Blog

The Weekly Scenario: Retirement Plan Loans

Question: I am considering taking a loan from my company retirement plan. Is it risky to do so?

Answer: The decision to borrow money from a retirement plan account can be risky due to the complex rules that must be followed. If the rules are not followed, it can lead to some serious tax consequences.

Some employers offer retirement plans that give employees the ability to borrow money from their retirement plan accounts through plan loan provisions.

Most loans from retirement plans are made from defined contribution and defined benefit plans (e.g., 401(k)). Loans are not available from IRAs, such as SIMPLE or SEPs.

Most of the time interest rates on plan loans are favorable. If a payment schedule is kept up with and certain rules followed, there are not likely going to be adverse tax consequences.

However, if the rules are not followed, a loan could be deemed a plan ‘distribution’ and result in the balance being taxable and possibly subject to a 10% early penalty.

Note that the loan balance, in general, must be repaid within 5 years and the loan must be repaid using substantially equal level of amortization with payments no less frequently than quarterly. There are also restrictions on how much one can borrow from a retirement plan account.
Comment: The requirement that a plan loan be repaid within five years does not apply to a loan used to acquire a principal residence.

As always, if you have any questions or would like to learn more, please let me know.

 

ABOUT STEVE SHANE

Steven E. Shane

Steve Shane provides strategic counseling to clients in need of estate administration, charitable giving and business continuity planning while minimizing estate, gift, and generation-skipping transfer tax exposure. He offers legal guidance to clients on asset protection and the proper disposition of assets in accordance with the client’s objectives, while employing tax planning techniques such as the use of irrevocable trusts, life insurance planning, lifetime gifts and charitable trust. He is also experienced with drafting documents for business planning, the incorporation and application for exemption for Private Foundations and the administration of decedents’ estates.

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