@jessicajude , as I see it, no loan offset distribution occurred because your husband was only away from the company for 6 weeks, so no distribution was made that was eligible for rollover. With no offset distribution having occurred, your husband was still responsible for making payments on the loan. Once your husband had resumed working there, no offset distribution was possible at that point. Because the payments did not resume before the loan was declared to be in default, the outstanding loan balance became a taxable deemed distribution, not an offset distribution, reported with code L in box 7 of the Form 1099-R.
A deemed distribution does not satisfy the loan, so the loan must still be repaid. However, repayments of the amount treated as a deemed distribution become after-tax basis in the plan, so this money will not get taxed twice. The deemed distribution just pulls this taxable income forward into the year of the deemed distribution whereas if the deemed distribution had not occurred then this amount would be taxable in the future when distributions eventually begin and are not rolled over to another traditional retirement account.
I see no option but to include the distribution in taxable income and pay the increase in tax liaibility.
