403(b) Outlook: Loan Requirements

December 10, 2008

403b Outlook Archive 403(b) Outlook Archive

What is the rule? Plan loans may be made available to 403(b) plan participants, using their retirement account as collateral for the loan, as long as they are permitted by the terms of the retirement plan (and the funding vehicle used to fund the plan), and certain legal requirements imposed under IRC Section 72(p) are satisfied. Under IRC Section 72(p)(2), a loan from a qualified employer plan (including a 403(b) plan) to a participant will not be treated as a distribution if the loan is legally enforceable, and it satisfies certain requirements, including:

  1. The loan has to be repaid over not more than five years (unless used for the purchase of a principal residence).
  2. The loan has to be paid in substantially level installments that include principal and interest, no less often than quarterly.
  3. The loan does not exceed the lesser of:
    1. $50,000 per plan (from all vendors combined), reduced to the extent that the participant’s highest balance for plan loans outstanding during the preceding 12 months exceeds the current balance for plan loans; or
    2. 50 percent of the participant’s nonforfeitable benefit (or $10,000 if greater).

Note: These limits apply by treating all loans from all plans of the employer as one loan.

Responsibilities for loan administration: For plan loans that are made by the vendor under the terms of the 403(b) annuity contract, employers will be required to provide the vendor with adequate information to allow for the proper administration of the loans. The final 403(b) regulations make it clear that it will be inappropriate for the employer to allocate this responsibility to employees as employees do not have the expertise and may have an inappropriate self-interest in the transaction. The institution’s responsibility for determining a participant’s eligibility for a loan can be delegated to vendors or third-party record keepers.

What has changed? Formerly, plans may have allowed participants to self-certify their eligibility for loans. If you currently allow employees to determine whether they are eligible for a plan loan, you will need to adopt new administrative procedures.

How TIAA-CREF helps: TIAA-CREF’s Compliance Coordinator, a web-based application, will allow retirement plan sponsors to proactively manage plan participant loan (and hardship withdrawal) requests as required by the final regulations. The application was conceived by TIAA-CREF and will be developed in partnership with and hosted by Advent Software (NASDAQ: ADVS), a leading provider of software and services to the investment management industry.

Effective date: Jan. 1, 2009

What happens if you fail to comply? If loans are not properly administered, the result could be a loss of tax deferral for all contracts purchased for the affected individual.

Read more about loans.

Next week’s issue: Hardship Distributions


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