Will I face tax penalties if my pension loan becomes a withdrawal?

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Q. I took a loan from my teacher pension fund several years ago for the downpayment on my first home. I was making monthly payments up until I left the pension fund and started a new job. Now I need to pay off the loan by the end of this calendar year. If I choose to stop payments and allow it to be reported as a withdrawal, will the CARES Act allow me to avoid a tax penalty?
— Figuring it out

A. Sorry. You’ll have some help, but not on everything with this loan.

The CARES Act will not allow you to avoid paying taxes on a defaulted pension loan that is now considered a distribution, said Ken Van Leeuwen, a certified financial planner with Van Leeuwen & Company in Princeton.

“You will still owe taxes on the entire unpaid loan balance, however, the CARES Act allows you to spread the tax burden of the withdrawal over the next three years,” Van Leeuwen said. “If you are under 59 ½, the CARES Act also protects you from having to pay a 10% early withdrawal penalty that would otherwise be applied to withdrawals taken before you reach age 59 ½.”

He said it’s important to understand that there are eligibility requirements that must be met in order to qualify for exceptions under the CARES Act.

To qualify for a “coronavirus-related distribution,” or CRD, a participant must meet one of the following criteria:

  • Diagnosed with COVID-19
  • Spouse of dependent diagnosed with COVID-19
  • Experience adverse financial consequences as a result of being quarantined, laid off or furloughed; or having work hours reduced due to COVID-19, being unable to work due to an absence of child care caused by COVID-19, the closing of a business as a result of COVID-19, or other factors identified by the Secretary of the Treasury.

Email your questions to moc.p1594439068leHye1594439068noMJN1594439068@ksA1594439068.

This story was originally published on June 25, 2020.

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