The Loan Offset That Ate the Rollover Window
Denise, age 68, terminated employment March 31, 2024. Her vested account is $100,000, of which $20,000 is the outstanding balance of a plan loan (original $25,000, five-year term, 4.25%, payroll repayment). The plan's loan policy provides that if repayments stop, the loan is offset against the account on the last day of the second calendar quarter after termination - here, September 30, 2024. On December 1, 2024 she requests $50,000 in cash and asks whether she can simply roll the loan into an IRA so it is not taxed. The plan permits partial withdrawals after termination and follows the statutory mandatory cash-out rules. She has no after-tax basis in the account and no other distributions in 2024.
1. How much must be distributed from her account to deliver $50,000 of cash, and what withholding applies?
Read the worked answer
Cash actually available. The $20,000 loan offset has already occurred, so it is no longer part of the account. Cash balance at December 1, 2024 = $100,000 − $20,000 = $80,000.
Gross-up for mandatory withholding. Any amount paid to her (rather than directly rolled over) is an eligible rollover distribution subject to 20% mandatory federal withholding under §3405(c).
- To net $50,000: gross = $50,000 ÷ 0.80 = $62,500
- Federal withholding forwarded to the IRS = $62,500 × 20% = $12,500
Practical notes.
- Any portion she elects to have paid directly to an IRA trustee is not subject to the 20% mandatory withholding and is excluded from income.
- State withholding may apply in addition; she can elect a higher withholding amount but never less than 20% on amounts not directly rolled over.
- The withholding is a prepayment, not a tax: she will true up on her 2024 return, so reaching her bank account with exactly $50,000 does not mean her tax is $12,500.
- After the distribution her remaining account balance = $80,000 − $62,500 = $17,500.
2. What are the tax consequences of the September 30, 2024 loan offset, and what could she still do about it on December 1, 2024?
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What it is. A plan loan offset is treated as a distribution of the offset amount on the date it occurs - a plan loan offset is an eligible rollover distribution, not merely a deemed distribution. The $20,000 is taxable in 2024 unless rolled over and is reported on Form 1099-R for 2024. No mandatory 20% withholding applies because no cash leaves the plan.
No penalty, no RMD issue. She is 68, so the §72(t) 10% additional tax does not apply. Her RMD age is 73 (she was born in 1956, within the 1951–1959 cohort), so no §401(a)(9) distribution is forced in 2024 either.
The rollover window. The 60-day period for rolling over a plan loan offset runs from the offset date, so her window closed on November 29, 2024. By December 1 it has expired, and the $20,000 is taxable 2024 income.
Remaining options.
- A private letter ruling under §402(c)(3)(B) granting a waiver of the 60-day deadline - expensive and slow.
- Self-certification of a late rollover under Rev. Proc. 2020-46 - available only if she fits one of the eleven listed reasons (e.g., plan or financial institution error, misdirected deposit, death of a family member, severe financial hardship). 'I misunderstood the loan rules' does not qualify.
- Nothing else. The cash-out itself cannot be used to retroactively cure the offset.
Planning lesson. If she wanted the offset preserved, she needed $20,000 of outside money in an IRA by November 29.
3. What notices and plan mechanics apply to the December distribution, and can the plan simply pay out and close her account?
Read the worked answer
Required disclosures.
- A §402(f) special tax notice explaining direct rollover, withholding, and rollover deadlines, provided at least 30 days before the distribution (she may waive the 30 days; she cannot waive the notice).
- A direct rollover election form; absent an affirmative election to the contrary, the amount is paid to her with 20% withholding.
- A summary of the plan's distribution options and a statement of her vested balance and the outstanding loan offset.
Cannot force the remaining balance out. The mandatory cash-out limit under SECURE 2.0 is $7,000. Her $17,500 balance is far above it, so the plan cannot involuntarily distribute her remaining account. She may leave it in the plan until her RMD age (73) unless the plan's terms require distribution at a later normal retirement age. If the plan had been able to force it out, it would still be required to roll $1,000–$7,000 to an IRA automatically.
Other mechanics. Report the cash distribution and the loan offset as separate 1099-R entries for 2024; confirm the offset was processed as a distribution and not left as an outstanding receivable, and confirm the loan policy's offset timing was administered as written. A reminder that the loan offset permanently reduces her account even though nothing was paid to her.