When Does One-Year Equal Nine Months (Or Less)?

We know that the CARES Act doubled retirement plan loan limits for qualified individuals eligible for a Corona-Virus Related Distribution (CRD) to be the lesser of $100,000 or 100 percent of the participant’s vested account balance. To qualify, the loan must be made within 180 days after the enactment of the CARES Act (March 27th). The participant won’t owe income tax on the amount borrowed from the plan if it’s paid back within five years.

 

One of the relief provisions of the CARES Act is the delay of certain participant loan repayments. The Act provides that if a qualifying individual has a loan repayment due during the period beginning on March 27, 2020, and ending on December 31, 2020, then the repayment is delayed for one year. The law then provides that “any subsequent repayments with respect to any such loan shall be appropriately adjusted to reflect the delay in that due date… and any interest accruing during such delay.” Simple folks (like me) would assume that you would begin repaying the loan in April of 2021. Not so fast!

 

So then what does “delayed for one year” really mean? Believe it or not, it could mean one of three things. I think an example to help explain the three different interpretations would be helpful:

 

  • John takes a plan loan in April 2020 of $100,000
  • The payment is $1,887 per month (using 5% interest, paid back over 60 months)
  • The last repayment is due April of 2025
  • John has self-certified that he is a qualifying individual under the CARES Act
  • Loan repayments are suspended from April 2020-December 2020 (9 months) and John makes no payments during this period

 

Before diving into the three examples it is important to remember that the CARES Act only allows the suspension of loan repayments from March 27, 2020 through December 31, 2020. It says nothing about suspending loan payments after that point in time.

 

  • This is not the first time that the IRS has allowed loan payments to be suspended. Hurricane Katrina created a financial need and a potential safe harbor model for how this might work. Using the Katrina model, repayments would begin on 01/01/2021 based on a re-amortized loan. Under this interpretation, “subsequent repayments” refers to payments beginning after December 31, 2020. So you would calculate interest on the unpaid balance (the $100,000) from April through December). That additional interest would get tacked onto the $100,000. The term of the loan would be extended to September of 2026 to reflect the 9 months that loan repayments were suspended in 2020. John would now repay the loan over that 69 month period.

 

 

  • Under interpretation number 2, repayments still begin on January 1, 2021. The 2021 January, February, March and April repayments are equal to the original repayment amount. In this interpretation, the loan is not yet re-amortized so that the payments for January, February, March and April of 2021 are equal to the original loan repayment ($1,887). In April of 2021, 1-year from the date of the suspended payments, the loan is re-amortized based on the outstanding principal and interest with a term that is extended by one year (to April of 2026). This actually seems to me to be the most consistent interpretation with the law as written. If “subsequent repayments” is intended to refer to payments after the 1-year suspension period has expired (i.e., the only repayments that are adjusted are those that are due after the 1-year suspension period). Using this approach however, makes the re-amortization calculation much more difficult.

 

In both of the above interpretations, loan repayments have clearly begun less than one full year after the loan was taken.

 

  • Under interpretation number 3, all repayments are suspended for one year. No repayments resume until April 2021; all repayments are delayed for a full year. At that point, the loan is re-amortized based on the missed principal and the accrued interest.   The remaining term of the loan is now April 2026. This approach provides the most relief in that no payments are due until April 2021. However, we would be suspending payments from January 2021 through April 2021 and the CARES Act only allows the suspension of loan repayments from March 27, 2020, through Dec. 31, 2020.

 

 

If all of this seems unduly complicated, well… it is. If a plan leaves one provider and goes to another and they have different interpretations as to how the law works, will the new provider know not to default the loan? Also, what if a participant takes a loan out in December of 2020? In interpretations (1) and (2), they would need to begin repaying the loan one month later, in January 2021. In that case, the loan repayments would only have been deferred by one month. Lacking guidance, recordkeeping systems will need to be updated and this will take time. The providers need to begin these updates as soon as possible so they may need to choose one interpretation over another. Once guidance is available (and who knows when that will be) if record-keepers choose the “wrong” interpretation we can only hope that the IRS will be accepting of the fact that there were other reasonable interpretations of the law.

 

Based upon information from an April 20th article from the American Society of Pension Professionals and Actuaries (ASPPA)