Coordinating plan loans and hardship distributions.

• Author: Elinsky, Peter I.

Coordinating defined contribution plan loans with hardship distributions can provide participants with greater access to funds in their accounts.

Generally, plan loans secured by a participant's account balance in a defined contribution plan are limited to 50% of the participant's total vested account balance (disregarding the $50,000 ceiling and the $10,000 floor restriction under Sec. 72(p)). (See Department of Labor (DOL) Regs. Section 2550.408(b)(l(f).) Under IRS and DOL regulations, all the vested account balances maintained on a participant's behalf under a plan can be combined for this purpose. A loan can be disbursed from an individual account up to the full vested portion of that account (i.e., not limited to 50% of the account's vested portion). This allows loans to be focused on accounts that are not available for hardship distributions, thus maximizing the total amounts accessible by participants. Consistent with this disbursement procedure, the plan would also provide that the security for each loan is to be allocated to each separate account to the same extent that the account supported the actual loan disbursement.

Example 1: Participant P has two accounts in Plan A: a 50% vested company contribution account with a $10,000 balance, none of which is available for hardship distributions; and a 100% vested Sec. 401(k) elective contribution account with a $15,000 balance, all of which is available for hardship distributions. In this situation, P could be allowed to borrow a maximum of $10,000 from the plan - that is, 50% of his combined vested account balances. Using coordination to achieve maximum accessibility, a 10,000 loan would be disbursed in the amount of $5,000 from P's company contribution account (the full vested portion of that account) and $5,000 from the Sec. 401(k) account. This would still leave $10,000 in the Sec. 401(k) account available for hardship distribution so that, if necessary, P could have access to a total of $20,000 out of combined account balances of $25,000 and combined vested account balances of $20,000.

If disbursement of the loan were limited to 50% of the vested account balance for each separate account, P could have received a loan of $2,500 from his company contribution account and $7,500 from his Sec. 401(k) account, with corresponding security from each account. This would have left him only $7,500 for hardship withdrawals from the Sec. 401(k)...