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FROM:
Executive Director, NYC Police Pension Fund
TO:
All Uniformed Members of the Service
SUBJECT:
TAXABLE LIABILITY OF THE FINAL LOAN
DATE: September 18, 2007
- Occasionally, Police Pension Fund members are surprised to learn that they
have a taxable liability at the time of their retirement even if they do not
take a final loan or that the taxable liability exceeds the amount of the
final loan, when taken. This letter is intended to address this
issue.
- Prior to 1989, all pension contributions were taxed before they were
deducted from your check. These monies are considered tax free funds in your
pension account. Since 1989, regular pension contributions and member ITHP
contributions have been made federally tax deferred, and all interest earned
in this account is tax deferred. These monies are considered taxable funds in
your pension account. When a member borrows untaxed funds from the pension
account, to comply with IRS regulations and avoid tax consequences, such a
loan must be paid back within five years. If, upon retirement your outstanding
loan balance (before final loan) exceeds your tax free funds then you are
responsible for Federal taxes and a 10% penalty (if under 50 years old) on the
difference, unless that amount is rolled over into an IRA or 401K. For
example: if an active member takes out a loan for $40,000 and chooses to repay
in five years, the loan is a non taxable event as long as the taxable monies
are repaid within the five year period. However, if two years after taking the
loan, a member decides to retire and the outstanding loan balance is $32,000
with $15,000 being tax free money, the member will be responsible for taxes
and penalties on the difference of $17,000 (which has never been taxed). Such
a member may forgo taxes by repaying this amount in full, prior to exiting the
payroll or by rolling over this amount into an IRA or 401K, within 60 days of
retirement.
- Members who have an excess in their account should know that this money is
not necessarily tax free money. Only funds that have been contributed after
taxes (pre 1989 or extra 50%) are considered tax free monies. All members
should try to avoid taking pension loans of taxable funds, after their
fifteenth anniversary unless certain that they will not retire until the loan
is paid off, at least, to the point where the untaxed funds are paid back and
there is no taxable liability. The important point to remember is that post
1989 contributions (regular and ITHP) and all account interest has never been
taxed. When a member retires with an outstanding pension loan, if the amount
of untaxed contributions and untaxed interest exceeds the total balance in the
account at the time of retirement, there will be a taxable liability. As
always, pension fund counselors are available for consultation on this or any
other pension matter.
- For your information.
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