Originally Posted by pgallant
The issue is that I have an outstanding loan that I do not want to be taxed. I also do not want to continue to make payments because that would require that the money stay there. Do I simply bite the bullet and roll it over into the new 401k?
your old 401k rollover to a new account means that the call on the loan is triggered, and the funds are due;youMAY opt to pay the loan back in its entirety, or instead accept the outstanding balance as a distribution. any outstanding loan is called immediately and thus requires repayment of the balance remaining. While 401k loans can be made for durations as long as 5 years, this term closes after losing or changing jobs, and the term is cut to only 60 days. Or in case, you fail to pay back the loan in its entirety before the end of the 60-day period, you’ll have no other choice but to accept the loan as a distribution. Doing so is not considered a default, nor is it a terrible financial consequence; however, there are some costs with distributions.
Unlike a loan, a distribution is considered income, and if taken before 59 and½ years of age, a penalty is assessed on the amount of the distribution. Thus, if you were to borrow $6K and have paid back all but $5K, the loan would be effectively written off, and you would have $5K charged against your account. Essentially, the money isn’t replaced. You accept the distribution as an early withdrawal instead of a loan, and no further repayments are required. Since the distribution is income, you’ll be taxed at that year’s federal income tax rate on top of the 10% early penalty. Thus, a $5k distribution would bring a $500penalty plus your federal and state income taxes on the $5k If you are taxed in the 28% bracket and 2% at the state level, you pay a whopping $1.5K in penalties to accept the remainder of the loan balance as income!