401k Loan Default or Repayment Upon Death

Submitted by Steve Blankenship on Mon, 2017-01-16 18:23

I have a client that died unexpectedly and he had taken out a $50,000 401(k) loan prior to his death. He wasn’t married, so the non-spouse beneficiary has been told by the company that they cannot give him any additional information on the plan until he decides whether to repay or default on the 401k loan. So apparently, he has the choice but not sure what the consequences would be. It seems to me that the logical thing for them to do would be to deduct the loan from the account balance and the estate owes income taxes and penalties on that amount, but since they seem to be giving him a choice to default that doesn’t appear to be a forgone conclusion. If he truly has the choice, it seems that he would be better off defaulting and taking a higher balance as a rollover as then paying the taxes and penalties. If that’s truly an option, then anyone on their death bed should take a maximum 401(k) loan which doesn’t seem right.



Submitted by Alan - IRA critic on Tue, 2017-01-17 01:09

  • It is true that client cannot take any distributions until any options he has with respect to the loan are decided. However, this is no excuse for refusing critical information as long as the client has submitted a death certificate and other paperwork to substantiate his identity as the beneficiary.
  • Many plans just offset the loan balance upon participant’s death and send a 1099R to the estate for the offset distribution. The beneficiary has no other options. The beneficiary would then inherit the reduced remaining balance, which is easy to understand and equitable. This is probably also what happens if beneficiary opts to default on a repayment option.
  • If beneficiary were to repay the outstanding loan balance with after tax money, he would then inherit the full plan balance, and would have basis in the plan per Sec 72. I don’t see any sense in making that choice and also don’t expect there is any option that produces an inequitable result, where one party pays taxes on the outstanding loan and another receives those funds tax free.
  • Perhaps beneficiary should call the plan and demand an explanation of his options and the results of his choice. He probably has a limited time to make the decision, but is entitled to a 402(f) Notice which he may not have received .

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