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A Guide to 401(k) Loan Repayment After Losing Your Job

Financial hardships are being felt by many people in the form of salary cuts, reduced hours and unemployment. If you've lost your job and have an outstanding 401(k) loan, you may be wondering what options you have for repayment.

How long do you have to repay a 401(k) loan after leaving your employer?

Typically, the due date for a 401(k) loan is accelerated when you leave your employer. Some plans may give you 30-90 days from the date you left your employer to repay the loan. However, many plans will not accept a direct payment from you and will immediately treat the outstanding loan balance (including accrued interest) as a distribution. And that change from a loan to a distribution carries with it some hefty penalties and other complications.

Each employer plan has its own rules around loan repayments, so be sure to check with your company's retirement plan to understand the options available for your specific plan.

Can you roll over the amount of the loan balance to an Individual Retirement Account (IRA)?

If repayment is not an option for you, you could consider rolling over the loan balance (including accrued interest) to an IRA. Because the change from loan to distribution was due to losing your job, you have longer than the usual 60-day rollover period to initiate the rollover. Generally, you have until the federal income tax filing deadline (plus any extensions) for the tax year in which the distribution occurred to complete the rollover.

Here's an example. Assume you left your job on June 1, 2020, and your outstanding plan loan balance is $10,000. Your specific plan does not allow you to make direct payments to repay your loan, so the $10,000 loan balance will be treated as a distribution. You would have until April 15, 2021, to complete a rollover of $10,000 into an IRA. If you filed an extension for your 2020 federal tax return, you would have until October 15, 2021.

How do 401(k) loans impact taxes?

If your unpaid loan balance is treated as a distribution by the plan, any amount not rolled over by the applicable deadline is generally taxable to you and may be subject to the 10% early withdrawal penalty.

What if I lost my job due to COVID-19? Do the same rules apply?

If you lost your job due to COVID-19, the unpaid loan balance may qualify as a COVID-19 distribution. COVID-19 distributions allow for greater flexibility as to how income taxes are paid, are not subject to the 10% early withdrawal penalty, and may be "recontributed" for up to three years. You should consult your tax professional to determine if your unpaid loan balance qualifies as a COVID-19 distribution.

If you are wondering how losing your job with an existing 401(k) loan will affect you, checking with your plan administrator for the terms of your plan's policy is an important first step. Your financial advisor can then help you through any financial difficulty you may be experiencing and keep you on track – this is what we're here for.

Important Information:

These materials are for general education only and any specific questions related to your individual circumstances should be discussed with your personal financial, tax or legal advisor, as appropriate.

Edward Jones, its employees and financial advisors cannot provide tax or legal advice

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