Is there any instance where loan repayments can be made pre-tax? My client's TPA failed to set up loan repayments and is now going to "recharacterize" previous deferrals as loan repayments. They have also stated their intent to continue this practice, not just as a means of correction.

Loans should be repaid with after-tax money. Not only is this a plan issue, it is a payroll tax issue. Furthermore, the TPA should not go back and reclassify prior deferrals as loan repayments. If the participant intended the salary reductions to be deferrals, the TPA is essentially taking away that participant's right to participate. Its even a bigger issue if there was a match on those deferrals.

Thanks R. Butler - I knew that couldn't be right, but I can't seem to find any guidance in the Code or elsewhere. Any thoughts on where I might search? 72(p)(2)(B) says nothing about after-tax. Thanks again -

I don't know that there is a code section. Generally all income is subject to tax unless specifically excluded. Employee deferrals are specifically excluded, loan repayments are not. The general proposition that loan repayments are not subject to income tax is more of a withholding issue than a qualification issue. I'd ask the employer's CPA or payroll provider.

Your specific situation becomes a serious qualification issue if the employee intended that the prior withholding to be deferrals.