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Lev
Lev, Tax Advisor
Category: Tax
Satisfied Customers: 22639
Experience:  Taxes, Immigration, Labor Relations
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My husband took a loan against his 401 k several years ago.

Customer Question

My husband took a loan against his 401 k several years ago. He is not sure when, but he thinks between 2001 and 2005. He was then laid off and apparently defaulted with a balance. He was unaware and never heard anything until 2010, the company was closing and was reviewing it's books. They sent him a tax form requiring he report the distribution from several years ago to the IRS in 2010. The social security number on the tax form from them was incorrect and his 401 k plan that he still has with the old company had no record or any outstanding balance so when we filed in 2010, we did not add this to our income. We were married in 2009 and filed jointly in 2010 for the first time, which put us in a higher tax bracket. Today we received a letter from the IRS about not reporting this income. My question is, can they come after him all these years later? Do we have to pay taxes at the 2010 rates when he would have been in a lower tax bracket 5 to 10 years ago? He took the loan out to pay his fathers funeral. Thank you. We live in MA if thats a factor. Michelle
Submitted: 2 years ago.
Category: Tax
Expert:  Lev replied 2 years ago.

LEV :

Hi Michelle and welcome to Just Answer!
When your husband defaulted on the loan? Was that in 2010?

Customer : No. He doesn't even remember defaulting. When he was laid off in 2006 he did not know there was still a balance on the loan. He never heard anything until 2010 when he got a letter from the old company that they were reporting to the IRS for 2010 tax year this defaulted loan as a distribution. He did not get a distribution in 2010. He does not know when the original loan was even initiated. He checked his 401 account back to 2010 and there is no recording of a distribution in 2010. He does remember taking a loan back in maybe 2002 but did nit know there was a balance when laid off in 2006. He has not worked for this company or done anything with the 401 k since his lay off in 2006 . The account is just there with no current activity.
LEV :

The issue is that defaulted loan from 401k is deemed distribution... and is treated as taxable income - so in general the administrator is correct.
What is arguable - in which year that deemed distribution should take place.
If he defaulted in 2006 - form 1099R should be issued for 2006 - and not for 2010.

LEV :

So - while you may not argue deemed distribution. I suggest arguing that form 1099R was issued in 2010.
The reason is that the IRS has three years statute of limitation to assess additional tax liability. That means - while they may assess tax liability for 2010 - the IRS would not be able to assess any liability for 2006.
Your problem is that your husband ignored that reporting and did not timely object reporting - but the company is closed now - and there is no one to file a complaint.

Customer : He never received anything to respond to until 2010. So when we respond to the IRS we can say we partially agree but not for 2010 tax year? In 2006 he was single and unemployed so his taxable income was much less. In 2010 we were married and my salary puts us in a high bracket. It's not fair that we pay 2010 taxes on something old....but if there is a statute of limitations in them reporting it do we even have to pay it? Shouldn't they have sent the 1099 in 2006? Aren't they responsible for doing that? Or was he expected to call them if he never got it in 2006? I think I'm going to respond to IRS that no loan was taken outing 2010 so there was /is nothing to report and then they will have to go back to the company to prove it and they won't be able to ?
Customer : Btw we did call the company in 2010 and object to the 2010 1099 and the lady responded too bad she was reporting it to the IRS anyway and we could deal with them
LEV :

What you need to do now - file a formal letter that the form 1099R was incorrectly issued for 2010 and send via certified mail to the company or to whoever took over. You will use that as an argument that you tried to resolve the issue. If you do not receive any response within sufficient time to file - reply to the IRS - address is on the note that form 1099R was incorrect and provide all information as you posted here.
You should attach copies of statements and other documents (do not send originals!)
While it is not required - I also suggest having a local CPA or Enrolled Agent representing you with the IRS.

Let me know if you need any help.

Customer : And I asked her for a 1099 that said 2006 and she said no. They just discovered it in 2010 so that is the year they are reporting. I said but we didn't take a distribution in 2010 and that is when she said too bad she was reporting it to the IRS for 2010 and we could deal with the IRS and she rudely hung up on me
LEV :

But if there is a statute of limitations in them reporting it do we even have to pay it?
If the IRS accept your position that 1099R should be issued in 2006 - and assuming his 2006 tax return was timely filed - no need to pay these tax liability because of the statute of limitation run out.
Shouldn't they have sent the 1099 in 2006?

If he defaulted in 2006 – yes – this deemed distribution should be reported for 2006.

Aren't they responsible for doing that?

Yes – the administrator of his 401k is responsible.

Or was he expected to call them if he never got it in 2006?

Generally – yes – taxpayers are required to report taxable income regardless if it was reported to the IRS or not.

I think I'm going to respond to IRS that no loan was taken outing 2010 so there was /is nothing to report and then they will have to go back to the company to prove it and they won't be able to?

The issue is not WHEN the money were taken from 401k plan, but WHEN he defaulted. When the loan was defaulted – the outstanding balance deemed distribution.

Your only argument – as I see might be that it was 2006 income and not 2010 income.

LEV :

Btw we did call the company in 2010 and object to the 2010 1099 and the lady responded too badly she was reporting it to the IRS anyway and we could deal with them.
If you have documental evidences of your communications - please be sure to attach copies to your response to the IRS collection letter.
If you communicate via the phone - please tell the IRS in your letter - date and time of your communications, names of persons, and brief description of the communication.

Customer : Ok thanks for your help
LEV :

I am glad to be helpful. Please be sure you accept the answer. Experts are only credited if the answer is accepted.
If you need any clarification - be sure to come back.

Expert:  Lev replied 2 years ago.
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