42 Federal Register / Vol. 63, No. 1 / Friday, January 2, 1998 / Proposed Rules

1Proposed § 1.72(p)–1 (EE–106–82) was

published in the Federal Register (60 FR 66233) on

December 21, 1995.

2This treatment applies for purposes of

determining the amount taxable under section 72

(including application of return of tax basis).

However, as discussed below, the loan is still

considered outstanding for purposes of determining

the maximum amount of any subsequent loan to the

participant under section 72(p)(2)(A). Even though

interest continues to accrue on the outstanding loan

and is taken into account for purposes of

determining the maximum amount of any

subsequent loan, this additional interest is not

treated as an additional loan that results in a further

deemed distribution for purposes of section 72(p).

3With respect to coverage under Title I of the

Employee Retirement Income Security Act of 1974,

the Department of Labor has advised the Service

that an employer’s tax-sheltered annuity program

would not necessarily fail to satisfy the

Department’s regulation at 29 CFR 2510.3–2(f)

merely because the employer permits employees to

make repayments of loans made in connection with

the tax-sheltered annuity program through payroll

deductions as part of the employer’s payroll

deduction system, if the program operates within

the limitations set by that regulation.

Par. 6. In § 1.1297–3, paragraph (c) is

added to read as follows:

§ 1.1297–3 Deemed sale election by a

United States person that is a shareholder

of a passive foreign investment company.

[The text of this proposed paragraph

(c) is the same as the text of § 1.1297–

3T(c) published elsewhere in this issue

of the Federal Register.]

Par. 7 Section 1.1296–4(e) as

proposed at 60 FR 20922 (April 28,

1995) is amended by adding a sentence

at the end of the paragraph to read as

follows:

§ 1.1296–4 Characterization of certain

banking income of foreign banks as

passive.

* * * * *

(e) Lending activities test. * * * An

interbank deposit made in the ordinary

course of a corporation’s banking

business will be treated as a loan for

purposes of this section. For the

effective date of this paragraph (e), see

paragraph (k) of this section.

Michael P. Dolan,

Deputy Commissioner of Internal Revenue.

[FR Doc. 97–33984 Filed 12–31–97; 8:45 am]

BILLING CODE 4830–01–U

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG–209476–82]

RIN 1545–AE41

Loans to Plan Participants

AGENCY: Internal Revenue Service (IRS),

Treasury.

ACTION: Notice of proposed rulemaking.

SUMMARY: This document amends

proposed Income Tax Regulations under

section 72(p) of the Internal Revenue

Code relating to loans made from a

qualified employer plan to plan

participants or beneficiaries. Section

72(p) was added by section 236 of the

Tax Equity and Fiscal Responsibility

Act of 1982, and amended by the

Technical Corrections Act of 1982, the

Deficit Reduction Act of 1984, the Tax

Reform Act of 1986 and the Technical

and Miscellaneous Revenue Act of 1988.

These regulations provide guidance to

the public with respect to section 72(p),

and affect administrators of, participants

in, and beneficiaries of qualified

employer plans that permit participants

or beneficiaries to receive loans from the

plan (including loans from section

403(b) contracts and other contracts

issued under qualified employer plans).

DATES: Written comments and requests

for a public hearing must be received by

April 2, 1998.

ADDRESSES: Send submissions to:

CC:DOM:CORP:R (REG–209476–82),

room 5226, Internal Revenue Service,

POB 7604, Ben Franklin Station,

Washington, DC 20044. Submissions

may be hand delivered between the

hours 8 a.m. and 5 p.m. to:

CC:DOM:CORP:R (REG–209476–82),

Courier’s Desk, Internal Revenue

Service, 1111 Constitution Avenue NW,

Washington, DC. Alternatively,

taxpayers may submit comments

electronically via the Internet by

selecting the ‘‘Tax Regs’’ option on the

IRS Home Page, or by submitting

comments directly to the IRS Internet

site at http://www.irs.ustreas.gov/prod/

taxlregs/comments.html.

FOR FURTHER INFORMATION CONTACT:

Concerning the regulations Vernon S.

Carter, (202) 622–6070; concerning

submissions or requests to speak at the

hearing, La Nita VanDyke, (202) 622–

7190 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

This document contains proposed

amendments to the Proposed Income

Tax Regulations (26 CFR Part 1) under

section 72 of the Internal Revenue Code

of 1986 (Code). These amendments

provide additional guidance concerning

the tax treatment of loans that are

deemed to be distributed under section

72(p).

Explanation of Provisions

Section 72(p)(1)(A) provides that a

loan from a qualified employer plan

(including a contract purchased under a

qualified employer plan) to a participant

or beneficiary is treated as received as

a distribution from the plan for

purposes of section 72 (a deemed

distribution). Section 72(p)(1)(B)

provides that an assignment or pledge of

(or an agreement to assign or pledge)

any portion of a participant’s or

beneficiary’s interest in a qualified

employer plan is treated as a loan from

the plan.

Section 72(p)(2) provides that section

72(p)(1) does not apply to the extent

certain conditions are satisfied.

Specifically, under section 72(p)(2), a

loan from a qualified employer plan to

a participant or beneficiary is not

treated as a distribution from the plan

if the loan satisfies requirements

relating to the term of the loan and the

repayment schedule, and to the extent

the loan satisfies certain limitations on

the amount loaned.

Regulations were proposed in 1995 1

with respect to many of the issues

arising under section 72(p)(2). The

preamble to the 1995 proposed

regulations requested comments on

whether further guidance should be

provided on certain issues that were not

addressed. Following publication of the

1995 proposed regulations, comments

were received and a public hearing was

held on June 28, 1996. One of the issues

on which comments were requested and

received was the effect of a deemed

distribution on the tax treatment of

subsequent distributions from a plan

(such as whether a participant has tax

basis as a result of a deemed

distribution). After reviewing the

written comments and comments made

at the public hearing, these new

proposed regulations address this issue.

These new proposed regulations

provide that once a loan is deemed

distributed under section 72(p), the

interest that accrues thereafter on that

loan is not included in income.2

Further, because the loan amount is

treated as distributed for purposes of

section 72, neither the income that

resulted from the deemed distribution

nor the interest that accrues thereafter

increases the participant’s investment in

the contract (tax basis) for purposes of

section 72.

For example, assume that, after a loan

has been made from a defined

contribution plan to a participant, a

deemed distribution occurs as a result of

failure to make timely loan repayments

(e.g., the repayments were not to be

made by payroll withholding 3). The

participant’s total account then consists

of non-loan assets and a receivable for

the loan balance. At separation from

employment, the participant’s vested
Federal Register / Vol. 63, No. 1 / Friday, January 2, 1998 / Proposed Rules 43

account balance is reduced (offset) by

the loan amount and the remaining

account balance is distributed in a lump

sum to the participant. In this case, in

addition to the income that previously

arose as a result of the deemed

distribution due to the failure to make

timely payments on the loan, the

participant would have a taxable

distribution at separation from

employment for the remaining account

balance reflecting the non-loan assets

that are distributed in a lump sum (with

no tax basis as a result of the prior

deemed distribution of the loan

amount). The offset of the loan balance

(i.e., the offset of the loan receivable by

the loan amount) would be disregarded

for purposes of section 72 because the

loan had previously been deemed

distributed as a result of the failure to

make timely payments on the loan.

A loan that is deemed distributed

under section 72 is nevertheless

outstanding for other purposes until the

loan obligation is satisfied (e.g., by cash

repayment or by offset against the

participant’s accrued benefit). Q&A–13

of the 1995 proposed regulations lists

other differences between a deemed

distribution and a loan offset. In

addition, for purposes of calculating the

maximum permitted amount of any

subsequent loan, a loan that has been

deemed distributed is considered

outstanding until the loan obligation has

been satisfied.

The proposed regulations also provide

that if a participant makes any cash

repayments on a loan after the loan is

deemed distributed, the repayments

increase the participant’s tax basis in

the plan in the same manner as if the

repayments were after-tax contributions.

However, such repayments are not

treated as after-tax contributions for

purposes of section 401(m) or

415(c)(2)(B).

These regulations are proposed to

become effective for loans made on or

after the first January 1 that is at least

6 months after the date the regulations

are published as final regulations in the

Federal Register (the regulatory

effective date). These regulations also

revise the proposed effective date for the

1995 proposed regulations, so that the

same proposed effective date would

apply to the 1995 proposed regulations

and these proposed regulations.

Generally, a plan is permitted to

apply the new proposed regulations to

loans made before the regulatory

effective date. However, the regulations

include a special consistency rule

applicable if there has been any deemed

distribution of the loan before the date

the plan switches to the new proposed

regulations for the loan. In this event, a

plan is not permitted to apply the new

proposed regulations to the loan unless

the plan reported, in Box 1 of Form

1099–R, a gross distribution with

respect to the loan that is at least equal

to the amount required by the 1995

proposed regulations (referred to as the

initial default amount in the new

proposed regulations) for a taxable year

that is not later than the latest year that

would be permitted under the 1995

proposed regulations. In such a case, the

plan may apply the new proposed

regulations to the loan even though, in

the past, the plan reported deemed

distributions with respect to the loan in

a manner that is not consistent with the

new proposed regulations.

If a plan does apply the new proposed

regulations to a pre-regulatory effective

date loan that has been deemed

distributed, then the plan, in its

subsequent reporting and withholding,

must not attribute investment in the

contract (tax basis) to the participant

based upon the initial default amount.

For example, a plan that reported

income for the initial default amount

plus all interest accruing thereafter as a

result of the default and made

corresponding increases in the

participant’s tax basis would comply

with this consistency rule by reducing

the participant’s tax basis by an amount

equal to the initial default amount.

However, a special rule applies if a plan

had increased a participant’s tax basis

by the initial default amount and, just

before the first actual distribution made

after the plan switches to applying the

new proposed regulations to the loan,

the sum of the participant’s tax basis

immediately before the switch plus any

increase in basis thereafter is less than

the initial default amount (as a result of

intervening distributions). In this case, a

loan transition amount equal to the

amount by which the initial default

amount exceeds the participant’s tax

basis is treated as remaining outstanding

and that amount is includible in the

participant’s income at the time of the

next actual distribution from the plan to

the participant. The proposed

regulations include examples

illustrating the application of the

consistency rule.

Comments are requested on whether

the final regulations should include

further guidance relating to plan loans

made to participants before the

regulatory effective date.

Taxpayers may rely on these proposed

regulations for guidance pending the

issuance of final regulations. If, and to

the extent, future guidance is more

restrictive than the guidance in these

proposed regulations, the future

guidance will be applied without

retroactive effect.

Special Analyses

It has been determined that this notice

of proposed rulemaking is not a

significant regulatory action as defined

in EO 12866. Therefore, a regulatory

assessment is not required. It has also

been determined that section 553(b) of

the Administrative Procedure Act (5

U.S.C. chapter 5) does not apply to these

regulations, and because the regulation

does not impose a collection of

information on small entities, the

Regulatory Flexibility Act (5 U.S.C.

chapter 6) does not apply. Pursuant to

section 7805(f) of the Internal Revenue

Code, this notice of proposed

rulemaking will be submitted to the

Chief Counsel for Advocacy of the Small

Business Administration for comment

on its impact on small business.

Comments and Requests for a Public

Hearing

Before these proposed regulations are

adopted as final regulations,

consideration will be given to any

written comments that are submitted

timely (preferable a signed original and

eight copies) to the IRS. All comments

will be available for public inspection

and copying. A public hearing will be

scheduled if requested in writing by a

person that timely submits written

comments. If a public hearing is

scheduled, notice of the date, time and

place for the hearing will be published

in the Federal Register.

Drafting Information

The principal author of these

regulations is Vernon S. Carter, Office of

Associate Chief Counsel (Employee

Benefits and Exempt Organizations).

However, other personnel from the IRS

and Treasury Department participated

in their development.

List of Subjects in 26 CFR Part 1

Income taxes, Reporting and

recordkeeping requirements.

Amendments to the Previously

Proposed Regulations

Accordingly, 26 CFR part 1 is

proposed to be amended as follows:

PART 1—INCOME TAXES

Paragraph 1. The authority citation

for part 1 continues to read, in part, as

follows:

Authority: 126 U.S.C. 7805. * * *

Par. 2. Section 1.72(p)–1 of the

proposed regulations published

December 21, 1995, (60 FR 66233) is

amended as follows:
44 Federal Register / Vol. 63, No. 1 / Friday, January 2, 1998 / Proposed Rules

1. Q&A–19 is redesignated as Q&A–

21.

2. New Q&A–19 and Q&A–20 are

added.

3. Q&A–21, as redesignated, is

revised.

The additions and revision read as

follows:

§ 1.72(p)-1 Loans treated as distributions.

* * * * *

Q–19: If there is a deemed

distribution under section 72(p), is the

interest that accrues thereafter on the

amount of the deemed distribution an

indirect loan for income tax purposes?

A–19: (a) General rule. Except as

provided in paragraph (b) of this Q&A–

19, a deemed distribution of a loan is

treated as a distribution for purposes of

section 72. Therefore, a loan that is

deemed to be distributed under section

72(p) ceases to be an outstanding loan

for purposes of section 72, and the

interest that accrues thereafter under the

plan on the amount deemed distributed

is disregarded in applying section 72 to

the participant or beneficiary. Even

though interest continues to accrue on

the outstanding loan (and is taken into

account for purposes of determining the

tax treatment of any subsequent loan in

accordance with paragraph (b) of this

Q&A–19), this additional interest is not

treated as an additional loan (and, thus,

does not result in an additional deemed

distribution) for purposes of section

72(p). However, a loan that is deemed

distributed under section 72(p) is not

considered distributed for all purposes

of the Internal Revenue Code. See Q&A–

11 through Q&A–16 of this section.

(b) Exception for purposes of applying

section 72(p)(2)(A) to a subsequent loan.

A loan that is deemed distributed under

section 72(p) (including interest

accruing thereafter) and that has not

been repaid (such as by a plan loan

offset) is considered outstanding for

purposes of applying section 72(p)(2)(A)

to determine the maximum amount of

any subsequent loan to the participant

or beneficiary.

Q–20: Is a participant’s tax basis in

the plan increased if the participant

repays the loan after a deemed

distribution?

A–20: (a) Repayments after deemed

distribution. Yes, if the participant or

beneficiary repays the loan after a

deemed distribution of the loan under

section 72(p), then, for purposes of

section 72(e), the participant’s or

beneficiary’s investment in the contract

(tax basis) under the plan increases by

the amount of the cash repayments that

the participant or beneficiary makes on

the loan after the deemed distribution.

However, loan repayments are not

treated as after-tax contributions for

other purposes, including sections

401(m) and 415(c)(2)(B).

(b) Example. The following example

illustrates the rules in paragraph (a) of

this Q&A–20 and is based on the

assumptions described in

ASSUMPTIONS FOR EXAMPLES:

Example. (a) A participant receives a

$20,000 loan on January 1, 1999, to be repaid

in 20 quarterly installments of $1,245 each.

On December 31, 1999, the outstanding loan

balance ($19,179) is deemed distributed as a

result of a failure to make quarterly

installment payments that were due on

September 30, 1999 and December 31, 1999.

On June 30, 2000, the participant repays

$5,147 (which is the sum of the three

installment payments that were due on

September 30, 1999, December 31, 1999, and

March 31, 2000, with interest thereon to June

30, 2000, plus the installment payment that

was due on June 30, 2000). Thereafter, the

participant resumes making the installment

payments of $1,245 from September 30, 2000

through December 31, 2003. The loan

repayments made after December 31, 1999

through December 31, 2003 total $22,577.

(b) Because the participant repaid $22,577

after the deemed distribution that occurred

on December 31, 1999, the participant has

investment in the contract (tax basis) equal

to $22,577 as of December 31, 2003.

Q–21: When is the effective date of

section 72(p) and these regulations?

A–21: (a) Statutory effective date.

Section 72(p) generally applies to

assignments, pledges, and loans made

after August 13, 1982.

(b) Regulatory effective date. This

section applies to assignments, pledges,

and loans made on or after the first

January 1 that is at least 6 months after

the date of publication of the final

regulations in the Federal Register (the

regulatory effective date).

(c) Loans made before the regulatory

effective date—(1) General rule. A plan

is permitted to apply Q&A–19 and

Q&A–20 of this section to a loan made

before the regulatory effective date (and

after the statutory effective date in

paragraph (a) of this Q&A–21) if there

has not been any deemed distribution of

the loan before the transaction date or

if the conditions of paragraph (c)(2) of

this Q&A–21 are satisfied with respect

to the loan.

(2) Consistency transition rule for

certain loans deemed distributed before

the regulatory effective date. (i) The

rules in this paragraph (c)(2) apply to a

loan made before the regulatory

effective date (and after the statutory

effective date in paragraph (a) of this

Q&A–21) if there has been any deemed

distribution of the loan before the

transition date.

(ii) The plan is permitted to apply

Q&A–19 and Q&A–20 of this section to

the loan beginning on any January 1, but

only if the plan reported, in Box 1 of

Form 1099–R, for a taxable year no later

than the latest taxable year that would

be permitted under this section, a gross

distribution of an amount at least equal

to the initial default amount. For

purposes of this section, the initial

default amount is the amount that

would be reported as a gross

distribution under Q&A–4 and Q&A–10

of this section and the transition date is

the January 1 on which a plan begins

applying Q&A–19 and Q&A–20 of this

section to a loan.

(iii) If a plan applies Q&A–19 and

Q&A–20 of this section to such a loan,

then the plan, in its reporting and

withholding on or after the transition

date, must not attribute investment in

the contract (tax basis) to the participant

or beneficiary based upon the initial

default amount.

(iv) This paragraph (c)(2)(iv) applies

if—

(A) The plan attributed investment in

the contract (tax basis) to the participant

or beneficiary based on the deemed

distribution of the loan;

(B) The plan subsequently made an

actual distribution to the participant or

beneficiary before the transition date;

and

(C) Immediately before the first actual

distribution made on or after the

transition date, the initial default

amount (or, if less, the amount of the

investment in the contract so attributed)

exceeds the sum of the participant’s or

beneficiary’s investment in the contract

(tax basis) immediately before the

transition date plus any increase in the

participant’s or beneficiary’s investment

in the contract (tax basis) on or after the

transition date. If this paragraph

(c)(2)(iv) applies, the plan must treat the

excess (the loan transition amount) as a

loan amount that remains outstanding

and must include the excess in the

participant’s or beneficiary’s income at

the time of the actual distribution.

(3) Examples. The rules in paragraph

(c)(2) of this Q&A–21 are illustrated by

the following examples, which are

based on the assumptions described in

ASSUMPTIONS FOR EXAMPLES (and,

except as specifically provided in the

examples, also assume that no

distributions are made to the participant

and that the participant has no

investment in the contract with respect

to the plan). Example 1, Example 2, and

Example 4 illustrate the application of

these rules to a plan that, before the

transition date, did not treat interest

accruing after the initial deemed

distribution as resulting in additional

deemed distributions under section

72(p). Example 3 illustrates the
Federal Register / Vol. 63, No. 1 / Friday, January 2, 1998 / Proposed Rules 45

application of these rules to a plan that,

before the transition date, treated

interest accruing after the initial deemed

distribution as resulting in additional

deemed distributions under section

72(p).

Example 1. (a) In 1995, when a

participant’s account balance under a plan is

$50,000, the participant receives a loan from

the plan. The participant makes the required

repayments until 1996 when there is a

deemed distribution of $20,000 as a result of

a failure to repay the loan. For 1996, as a

result of the deemed distribution, the plan

reports, in Box 1 of Form 1099–R, a gross

distribution of $20,000 (which is the initial

default amount in accordance with paragraph

(c)(2)(ii) of Q&A–21 of this section) and, in

Box 2 of Form 1099–R, a taxable amount of

$20,000. The plan then records an increase

in the participant’s tax basis for the same

amount ($20,000). Thereafter, the plan

disregards, for purposes of section 72, the

interest that accrues on the loan after the

1996 deemed distribution. Thus, as of

December 31, 1998, the total taxable amount

reported by the plan as a result of the deemed

distribution is $20,000 and the plan’s records

show that the participant’s tax basis is the

same amount ($20,000). As of January 1,

1999, the plan decides to apply Q&A–19 of

this section to the loan. Accordingly, it

reduces the participant’s tax basis by the

initial default amount of $20,000, so that the

participant’s remaining tax basis in the plan

is zero. Thereafter, the amount of the

outstanding loan is not treated as part of the

account balance for purposes of section 72.

The participant attains age 59–1⁄2 in the year

2000 and receives a distribution of the full

account balance under the plan consisting of

$60,000 in cash and the loan receivable. At

that time, the plan’s records reflect an offset

of the loan amount against the loan

receivable in the participant’s account and a

distribution of $60,000 in cash.

(b) For the year 2000, the plan must report

a gross distribution of $60,000 on Box 1 of

Form 1099–R and a taxable amount of

$60,000 in Box 2 of Form 1099–R.

Example 2. The facts are the same as in

Example 1, except that in 1996, immediately

prior to the deemed distribution, the

participant’s account balance under the plan

totals $50,000 and the participant’s tax basis

is $10,000. For 1996, the plan reports, in Box

1 of Form 1099–R, a gross distribution of

$20,000 (which is the initial default amount

in accordance with paragraph (c)(2)(ii) of

Q&A–21 of this section) and reports, in Box

2 of Form 1099–R, a taxable amount of

$16,000 (the $20,000 deemed distribution

minus $4,000 of tax basis ($10,000 times

($20,000/$50,000)) allocated to the deemed

distribution). The plan then records an

increase in tax basis equal to the $20,000

deemed distribution, so that the participant’s

remaining tax basis as of December 31, 1996

totals $26,000 ($10,000 minus $4,000 plus

$20,000). Thereafter, the plan disregards, for

purposes of section 72, the interest that

accrues on the loan after the 1996 deemed

distribution. Thus, as of December 31, 1998,

the total taxable amount reported by the plan

as a result of the deemed distribution is

$16,000 and the plan’s records show that the

participant’s tax basis is $26,000. As of

January 1, 1999, the plan decides to apply

Q&A–19 of this section to the loan.

Accordingly, it reduces the participant’s tax

basis by the initial default amount of

$20,000, so that the participant’s remaining

tax basis in the plan is $6,000. Thereafter, the

amount of the outstanding loan is not treated

as part of the account balance for purposes

of section 72. The participant attains age

591⁄2 in the year 2000 and receives a

distribution of the full account balance under

the plan consisting of $60,000 in cash and

the loan receivable. At that time, the plan’s

records reflect an offset of the loan amount

against the loan receivable in the

participant’s account and a distribution of

$60,000 in cash.

(b) For the year 2000, the plan must report

a gross distribution of $60,000 on Box 1 of

Form 1099–R and a taxable amount of

$54,000 in Box 2 of Form 1099–R.

Example 3. (a) In 1990, when a

participant’s account balance in a plan is

$100,000, the participant receives a loan of

$50,000 from the plan. The participant makes

the required loan repayments until 1992

when there is a deemed distribution of

$28,919 as a result of a failure to repay the

loan. For 1992, as a result of the deemed

distribution, the plan reports, in Box 1 of

Form 1099–R, a gross distribution of $28,919

(which is the initial default amount in

accordance with paragraph (c)(2)(ii) of Q&A–

21 of this section) and, in Box 2 of Form

1099–R, a taxable amount of $28,919. For

1992, the plan also records an increase in the

participant’s tax basis for the same amount

($28,919). Each year thereafter through 1998,

the plan reports a gross distribution equal to

the interest accruing that year on the loan

balance, reports a taxable amount equal to

the interest accruing that year on the loan

balance reduced by the participant’s tax basis

allocated to the gross distribution, and

records a net increase in the participant’s tax

basis equal to that taxable amount. As of

December 31, 1998, the taxable amount

reported by the plan as a result of the loan

totals $44,329 and the plan’s records for

purposes of section 72 show that the

participant’s tax basis totals the same amount

($44,329). As of January 1, 1999, the plan

decides to apply Q&A–19 of this section.

Accordingly, it reduces the participant’s tax

basis by the initial default amount of

$28,919, so that the participant’s remaining

tax basis in the plan is $15,410 ($44,329

minus $28,919) as of December 31, 1999.

Thereafter, the amount of the outstanding

loan is not treated as part of the account

balance for purposes of section 72. The

participant attains age 591⁄2 in the year 2000

and receives a distribution of the full account

balance under the plan consisting of

$180,000 in cash and the loan receivable

equal to the $28,919 outstanding loan

amount in 1992 plus interest accrued

thereafter to the payment date in 2000. At

that time, the plan’s records reflect an offset

of the loan amount against the loan

receivable in the participant’s account and a

distribution of $180,000 in cash.

(b) For the year 2000, the plan must report

a gross distribution of $180,000 in Box 1 of

Form 1099–R and a taxable amount of

$164,590 in Box 2 of Form 1099–R ($180,000

minus the remaining tax basis of $15,410).

Example 4. (a) The facts are the same as

in Example 1, except that in 1997, after the

deemed distribution, the participant receives

a $10,000 hardship distribution. At the time

of the hardship distribution, the participant’s

account balance under the plan totals

$50,000. For 1997, the plan reports, in Box

1 of Form 1099–R, a gross distribution of

$10,000 and, in Box 2 of Form 1099–R, a

taxable amount of $6,000 (the $10,000 actual

distribution minus $4,000 of tax basis

($10,000 times ($20,000/$50,000)) allocated

to this actual distribution). The plan then

records a decrease in tax basis equal to

$4,000, so that the participant’s remaining

tax basis as of December 31, 1997 totals

$16,000 ($20,000 minus $4,000). After 1996,

the plan disregards, for purposes of section

72, the interest that accrues on the loan after

the 1996 deemed distribution. Thus, as of

December 31, 1998, the total taxable amount

reported by the plan as a result of the deemed

distribution plus the 1997 actual distribution

is $26,000 and the plan’s records show that

the participant’s tax basis is $16,000. As of

January 1, 1999, the plan decides to apply

Q&A–19 of this section to the loan.

Accordingly, it reduces the participant’s tax

basis by the initial default amount of

$20,000, so that the participant’s remaining

tax basis in the plan is reduced from $16,000

to zero. However, because the $20,000 initial

default amount exceeds $16,000, the plan

records a loan transition amount of $4,000

($20,000 minus $16,000). Thereafter, the

amount of the outstanding loan, other than

the $4,000 loan transition amount, is not

treated as part of the account balance for

purposes of section 72. The participant

attains age 591⁄2 in the year 2000 and receives

a distribution of the full account balance

under the plan consisting of $60,000 in cash

and the loan receivable. At that time, the

plan’s records reflect an offset of the loan

amount against the loan receivable in the

participant’s account and a distribution of

$60,000 in cash.

(b) In accordance with paragraph (c)(2)(iv)

of Q&A–21 of this section, the plan must

report in Box 1 of Form 1099–R a gross

distribution of $64,000 and in Box 2 of Form

1099–R a taxable amount for the participant

for the year 2000 equal to $64,000 (the sum

of the $60,000 paid in the year 2000 plus

$4,000 as the loan transition amount).

Michael P. Dolan,

Deputy Commissioner of Internal Revenue.

[FR Doc. 97–33983 Filed 12–31–97; 8:45 am]

BILLING CODE 4830–01–M