A participant took out a loan in Sepember of 2001, and terminated in the month following the distribution. It looks like he never made any payments on the loan, so it's in default. He has an account balance, besides the $8000 loan, of under $5k. Can he be forced out of the plan? I am thinking yes - what do you think?

Yes.

See Q&A 39 of the 2004 ABA questions to the IRS at:

http://www.abanet.org/jceb/agency.html

They specify that the deemed distribution of the loan must occur prior to the date of the cashout for this to work.

Presumably, this should have been a deemed distribution way back in 2001.

Actually the IRS answer says "offset" -- which is an actual distribution and reduces the account balance. A deemed distribution doesn't actually reduce the person's account balance. It just essentially makes part of it "after tax" money. It doesn't reduce the balance below the $5,000.

While deemed distributions may occur automatically by operation of law, offsets do not. They depend on the plan provisions. The plan would have to provide for the offset to occur prior to the intended cash out date.