A plan allows for loans to participants and beneficiaries. The sole plan participant has died, it will take some time to settle the estate and other affairs, the spouse beneficiary wants to take a loan for $50K against the death benefit. She expects to be able to make quarterly payments and ultimately repay the entire amount before rolling the death benefit over to an IRA, but there is a possibility that she might end up defaulting on the loan.
If she were to take a distribution directly from the plan, it would be taxable but exempt from the pre-59-1/2 penalty as a death benefit. What happens if she takes the loan now, and then defaults on it later? It would be a deemed distribution for taxation, would it still be exempt from the penalty since it is a deemed distribution of a death benefit? Or might the penalty apply?