10% Penalty on Loan Distributions
If a person is separated from service after age 55, is a distribution due to an outstanding loan from the company (code L) and exception to the 10% penalty in the same manner as any other distribution?
I entered code L in my tax program for a person under 55, and it did not calculate the 10% penalty. I did not think that distributions for a loan payback was an exception to the 10% penalty. Is this correct?
I am trying to get correct answer documented for a friend.
Thanks,
Ed Lustberg
Permalink Submitted by Alan Spross on Wed, 2007-10-17 03:12
Ed, this gets into the complex world of deemed vrs offset plan distributions and the resulting 1099R coding.
My impression here is that a deemed distribution is always coded L, but it is up to the plan administrator to add the 1 for “early” if it applies. The 1099R instructions do not provide for an option of 2 for an early withdrawal exception. Since the date of the deemed distribution should be the date the loan becomes delinquent, it appears the key variable here is whether it becomes delinquent prior to age 59.5 or not. The date of separation appears immaterial. This probably explains the treatment by your tax software since the L itself is not deemed early unless it is accompanied by the “1” on the 1099R. If there is no “1”, this person will not incur the penalty. It’s not possible to know if the current coding is correct, but it is favorable to the taxpayer.