November 10, 2003
TO: Members of the PERS, TPAF, PFRS, SPRS, and JRS
Deputy Director, Finance
New Internal Revenue Service regulations, effective January 1, 2004, are requiring the Division of Pensions and Benefits to change its pension loan policies. Under the new IRS regulations, members who take multiple loans must repay the outstanding balance of the original loan, and all subsequent loans taken before the original loan is completely paid off, within a period not to exceed 5 years from the issuance of the first loan taken after January 1, 2004. Failure to repay the loan within the five-year period will result in the unpaid balance being declared a taxable distribution.
This change does not affect the first loan the member takes after January 1, 2004. However, if another loan is taken before the first loan taken after January 2004 is paid off, the new regulations may result in either a substantial increase in the member’s repayment amount or it may even limit the amount that the member can borrow if the payroll deductions to repay the loan were to exceed the 25% of pay restriction in State law. Here is an example that illustrates the new policy.
Member John Smith has an existing pension loan with a balance of $8,500 and he borrows $15,000 in February 2004. The combined loan of $23,500 must be repaid by January 2009, resulting in monthly payments of $500 over a five-year period. There is no change from current practices with this loan. However, John Smith takes another loan of $10,000 in January 2006 with $12,000 remaining on the unpaid balance of the first loan he had taken in 2004. The $22,000 combined balance of the two loans will have to be repaid by January 2009, the end date of the first loan taken after January 1, 2004. The new repayment schedule will require deductions of $595 per month over the remaining three years of the original five-year loan repayment period. If the $595 per month were greater than 25% of John Smith’s pay, the amount borrowed will have to be reduced to keep the repayment below 25% of pay.
Please keep this information in mind if you plan to take any pension loans in the future.