If you have an outstanding loan against your 401(k) retirement money, you may want to pay off the loan in full when you quit or are fired from your job.
However, since you will no longer have a paycheck from which loan payments are deducted, the loan will fall due immediately, and you must figure out how to settle the outstanding 401(k) loan.
So, can 401k loan be transferred to another company?
Can 401k loan be transferred to another company?
When your employment ends, and you have an unpaid 401(k) loan, you may be required to pay off your 401(k) loan before you can roll over your net 401(k) balance to another employer.
Some 401(k) plans may allow you to roll over the net balance (total vested 401(k) balance less current loan balance) to a new employer’s 401(k) or IRA, and continue making payments on the 401(k) loan. In this case, you can make loan payments via direct deposit or check, since you no longer receive payment checks from the former employer.
If you are unable to pay the outstanding 401(k) loan by the plan deadline, the unpaid 401(k) loan balance will be deducted from your 401(k) balance as loan offset. For example, if your 401(k) balance is $50,000, and your unpaid loan balance is $15,000, your new 401(k) balance will be $35,000 after the loan offset.
Can a 401(k) loan offset be transferred to another company?
A 401(k) loan offset may be transferred into the new employer’s 401(k) plan (if it accepts rollovers) or to an IRA to avoid tax consequences. Usually, a 401(k) loan offset occurs when your 401(k) balance is reduced to pay a defaulted 401(k) loan.
If you fail to repay the 401(k) loan, the unpaid loan will be considered as a distribution from your 401(k) account. This distribution will be subject to income taxes, and an additional 10% penalty if you are younger than 59 ½. This loan offset will be added to your taxable income for the year when filing a tax return.
However, you may have the option to roll over the loan offset to an IRA or 401(k) plan by the tax filing deadline for the year. This rollover deadline was extended by the Tax Cuts and Jobs Act of 2017, from the previous 60 days period. If you complete the transfer before the specified period, the loan offset will not be considered a taxable distribution.
Some 401(k) plans do not accept direct rollovers of loan offsets, and you should check with the plan administrator before making the rollover.
Can a 401(k) loan be transferred if my company is sold?
When your company is sold, acquired, or merged with another company, what happens to existing 401(k) loans will depend on the new company’s policies.
If the acquiring company assumes the existing 401(k) accounts and any outstanding debts, they will be transferred to the new plan and you will continue paying the loan under the new plan. In this case, you won’t be required to take any action as long as you continue being an employee in the new company.
If the acquiring company decides to terminate the existing 401(k) plan or you are laid off, you may be required to repay the 401(k) loan immediately after the plan termination. If you are unable to pay the outstanding 401(k) loan, it may be considered a taxable distribution and you may be subject to income taxes and potential penalties.
If you move to a new employer that accepts 401(k) rollovers or have an IRA, you may be able to roll over the loan offset and any plan balance into a qualified retirement plan before the tax filing deadline. In this case, you can avoid triggering income taxes and penalties on the distribution.
Deemed distribution vs. loan offset
A deemed distribution and loan offset are terms that relate to 401(k) loans, where you leave your job or retire with an outstanding 401(k) balance. However, these terms vary in several ways.
A deemed distribution occurs when you have an unpaid 401(k) loan and you leave your job before repaying the loan. In this case, the unpaid loan will be treated as if you received a distribution from your 401(k) account, and you will be subject to income taxes and a 10% penalty if you are under 59 ½.
Subsequently, you will receive a 1099-R form for the deemed distribution, which shows that the distribution was reported to the IRS, and you must include it in your tax return for the year. A deemed distribution cannot be rolled over to another retirement plan.
In comparison, a loan offset occurs when you have an unpaid 401(k) loan balance when you leave your job, and the remaining balance is deducted from your account balance. The loan offset is considered a distribution and is subject to income taxes and penalties. Unlike a deemed distribution, a loan offset can be rolled over to an eligible retirement plan like a 401(k), IRA, or Roth IRA by the tax filing deadline for the year to avoid incurring taxes and penalties.
Tax consequences of a 401(k) loan offset
When you have an unpaid 401(k) loan and you leave your job, the remaining loan balance may be considered a deemed distribution or a loan offset. A loan offset occurs when the outstanding loan balance is reduced from your 401(k) balance. The loan offset may have several tax consequences:
First, the loan offset is considered a taxable distribution, and it is added to your taxable income for the year, which also increases the income taxes you will owe. You will be taxed at your income tax bracket rate.
If you are younger than age 59 ½ when the unpaid loan became a distribution, you may be subject to an additional 10% early withdrawal penalty on the taxable distribution. So, if you are in the 22% income tax bracket, the additional 10% penalty raises your liability to 32% of your taxable distribution.
If the loan offset occurs simultaneously with a cash distribution, there may be a 20% tax withholding. So, if you request a $20,000 cash distribution and you have a $10,000 loan offset, your employer may withhold $6,000 for federal income taxes. However, the 20% tax withholding won’t apply if there is no cash distribution.