You're correct. If they treated the loan balance as a distribution last year while he was laid off, there's no longer a loan balance to be repaid.

Are they attempting to correct the 1099 to $0, and re-instituting the loan and the paperwork has simply not been done properly?

They haven't mentioned anything about correcting the 1099. Like I mentioned they just keep saying we have to pay the loan as well as file the 1099.

That's silly. If they are actually taking the money as a loan repayment and treating it as such, contact your state department of labor as they have no right to make a deduction to his pay when you no longer have a loan against your 401k, it was treated as a withdrawal and taxed as income to you. loans are never treated as income. It stopped being a loan when they reported it as a distribution.

The trustee of the 401(k) might not be on the same page as the employer. One recognized the loan as being in default and issued a 1099-R. The other still shows a loan on the payroll and is collecting. That's my suspicion, anyway. A call to both the payroll people and the 401(k) people might be needed to clear this up.