RLL

Hi Rudy --- It's permitted so long as the ESOP as a whole, or the entire portion of the plan that's designated as an ESOP, complies with all the requirements applicable to an ESOP under IRC sections 4975(e)(7) and/or 409(a). Just because you haven't heard of this doesn't mean it's not OK. This type of arrangement, often referred to as a "KSOP," has been used increasingly by many companies since the late-1980's. To keep informed on current ESOP developments and practices, you ought to join The ESOP Association (www.esopassociation.org) and/or the National Center for Employee Ownership (www.nceo.org).

Hi carsca --- Distribution in installments over a period longer than generally required under IRC section 409(o) is permitted so long as it's at the election of the participant. From what you've described, it appears that the distribution provisions would satisfy section 409(o).

Hi carsca --- I agree with you that section 404(k) would allow it....but I did not "beg the question," as this quote from my first post indicates: "The dividend pass-through/reinvestment election may be available as to all allocated shares or may be limited to vested shares, as determined by the employer per ESOP plan provisions." The dividend election is not subject to IRC section 401(a)(4) by reason of section 404(k)(5)(B).

gkaley --- The 1,000 shares would be released (and allocable) only if the full scheduled ESOP loan payment due at that time is made by the ESOP. Loan payments are specified in dollar amounts....but shares are released proportionately (under one of the two formulae in the ESOP loan regs) only as actual loan payments are made, without regard to the then value of the shares. You've confused me.....I don't understand the arrangement that you're describing. If the employer contibutes less than the ESOP needs to make the loan payment due (and the ESOP then pays a lesser amount on the loan), a lesser number of shares is released for allocation to participants' accounts. And if the shares have declined in value, the value of the shares allocated will be less than the dollar amount contributed by the employer. If the value of the shares has increased since the shares were purchased with the loan proceeds, the value of the shares allocated may be greater than the dollar amount contributed by the employer.

ds86 --- Forfeitures are usually reallocated to other participants. Forfeitures may not revert to the company, although they may be applied to reduce future company contributions. The fact that one non-vested participant elects cash and another elects reinvestment should not be a major concern if that's what the ESOP provides for. If one terminates and forfeits, he/she may wish that he/she had elected to receive cash...but he/she made the choice. It's easier administratively to allow the election on all allocated shares, and the company's tax deduction for dividends will be larger. This may outweigh the "benefit" of using future forfeited reinvested dividends to reduce the company's future contributions.

Hi gkaley --- (1) The dividend deduction under IRC section 404(k) is available to any ESOP which qualifies as such under IRC section 4975(e)(7)....leveraged or non-leveraged....or to a tax credit ESOP under IRC section 409(a). It is not available to a non-ESOP stock bonus plan. (2) Shares in an ESOP loan suspense account are "released" for allocation to participants' accounts based on loan payments actually made. If the shares are worth less than the amount of contribution used for loan payments, the participants' allocations are worth less as of the allocation date...there is no requirement that the employer make up the difference (unless the plan document provides otherwise). If the employer contribution would be less than the amount needed to make current loan payments, there will be a default....unless the loan and/or plan documents require the employer to make contributions in amounts sufficient to allow the ESOP make scheduled loan payments. It depends on what the documents say.

Tom --- If your current legal counsel is giving "vague information" and/or if you have lost confidence in her/him, get yourself competent experienced ESOP counsel who knows the rules and is able to give you definitive advice. You're the client....you should expect and demand more from counsel than "vague" advice on such important matters. There are many good ESOP lawyers out there who would welcome a new ESOP company client. Check with The ESOP Association (www.esopassociation.org) and the National Center for Employee Ownership (www.nceo.org) for recommendations.

Hi tfurlong --- My suggestion.....Don't !

Hi ds86 --- EGTRRA amended IRC section 404(k) to extend the ESOP dividend deduction to dividends (on employer stock) which are subject to a "pass-through/reinvestment" election by participants....but I don't think that the IRS has yet published new regulations on this provision. The dividend pass-through/reinvestment election may be available as to all allocated shares or may be limited to vested shares, as determined by the employer per ESOP plan provisions. It's a lot easier to extend the election to all allocated shares....and this will also mean a larger tax deduction for the employer. The election permits the participant to decide whether to receive dividends in cash or to have the dividends reinvested in employer stock. The employer will be allowed a deduction for dividends on all shares of employer stock with respect to which an election is available to participants.

Hi 91smithie --- Why would an ESOP fiduciary agree to this arrangement? Is the fiduciary independent of the company? The redemption of ESOP shares by the company can qualify for the prohibited transaction exemption of ERISA section 408(e) if the "adequate consideration" standard of ERISA section 3(18) is satisfied....but there is still the issue of compliance with the fiduciary duties of ERISA section 404(a)(1).

Hi stephen --- Yes .....the ESOP diversification election under IRC section 401(a)(28)(B) is required after age 55 and ten years of participation. My first response to dmj1998 merely repeated what he/she had stated. Actually, this is the first error that I've made in 17 years. Thanks for your correction.

Welcome back, dmj1998 --- Yes....an ESOP may be amended to make the requirements for the diversification election less restrictive than the (age 55 & 5 years of participation) rules of IRC section 401(a)(28)(B). This is the case whether or not there is an outstanding ESOP loan. However, if the diversification election is satisfied by distributions rather than transfers, amounts allocated for less than two years could not be withdrawn on an "in-service" basis by a participant with less than 5 years of participation (and there can be no "in-service" withdrawals from a money purchase portion of an ESOP); and amounts diversified within the ESOP (rather than distributed or transferred to another plan) would continue to be subject to the stock distribution option of section 409(h) to the extent of diversification in excess of the section 401(a)(28)(B) requirements.

Hi IRC401 --- Use of dividends on employer stock to offset the stipulated allocation of employer contributions may violate the "exclusive benefit" rule of IRC section 401(a). This results from, in effect, using dividends attributable to some participants' accounts to satisfy the formula allocation of employer contributions to other participants' accounts.

Hi Bob --- If dividends have not been "passed through" to ESOP participants, there are no dividends to report in item 15(e) of Schedule E. Dividends which are allocated to participants' accounts under the ESOP have not been "paid to participants."

Christine --- I'm always serious..... Maybe the ESOP should be "converted" (by amendment) into a (non-ESOP) profit sharing plan in conection with the "freezing." I assume that there is no current ESOP loan or other reason to maintain "ESOP status." Please note that ERISA section 407(d)(3)(A) includes profit sharing plans as "eligible individual account plans" which are not subject to the 10% limit on investments in employer stock, per section 407(B).

Christine --- You're welcome....but what makes you think that we're gentlemen?

sammy --- Why not just have the company redeem the stock upon death, along with contributions of stock to the ESOP? The ESOP will then own 100% of company stock when the other shareholders' shares have been redeemed. This avoids the potential tax problems and gives the company a deduction for the stock contributions.

Christine --- Yes...the ESOP may be "frozen," and the employer may offer to purchase stock from the ESOP (for cash) annually. But there should be an independent fiduciary representing the ESOP to negotiate the highest possible sales price for the benefit of ESOP participants.

Hi sammy --- What are the objectives here? Why would someone want to do this?

Hi Christine --- (a) You are correct that the issuance of a note by the company to its ESOP would be a prohibited extension of credit under ERISA section 406 and IRC section 4975. (B) Assuming that the PT rules were not in the law, this may or may not be a fiduciary breach....although approval by a truly independent fiduciary might be the most appropriate way to effect this transaction by the ESOP. © The ESOP would become a non-ESOP; if it were not to be terminated, it should be converted into another type of plan. (d) Termination of the ESOP may be a better way to accomplish this, but not necessarily. I don't know enough about the facts here to agree with you at this point. And you still should have an independent fiduciary involved. These circumstances may require that a "premium" be placed on the valuation of company stock. Who's going to give instructions to the "independent" appraiser and who's going to "accept" the appraisal?

Darrell --- Corbel is correct about the ESOP exception to the QJSA requirement. Why was the annuity option ever included in the ESOP? It appears that IRC section 411(d)(6)© would allow it to be eliminated. If that's what IRS Announcement 95-33 says, it is an incorrect interpretation of IRC section 401(a)(11)©. Remember that the IRS still does not have a good understanding of all the IRC's ESOP provisions. Section 401(a)(11)© clearly states that the QJSA exception for ESOPs is available to the extent that section 409(h) applies to the accrued benefit, and section 409(h) clearly applies to the entire accrued benefit under an ESOP. An "other investments account" under an ESOP (whether or not the ESOP includes a money purchase plan) is subject to the applicable requirements of section 409(h) by reason of the last sentence of section 4975(e)(7). The only exception would be if the "ESOP" included a non-ESOP portion which is not subject to the ESOP requirements. It is clear that section 409(h) does not require distributions in employer stock....it merely requires that participants be given elections to receive distributions of their entire ESOP accrued benefits in employer stock, unless the "ownership restriction" or S corporation exceptions of section 409(h)(2) apply. I'm somewhat surprised to hear that a lawyer would use a Corbel document for an ESOP.

Hi IRC401 --- I think I remember algebra sufficiently to conclude that: if I = 0, then P + I = P. Your question does raise a good point. It would appear that an interest rate of "zero" might result in a requirement (under the ESOP loan regulations) that the loan be amortized in a manner that would qualify for share release on a "principal only" basis. Another reason to avoid having a no-interest rate ESOP loan. I don't understand your question regarding the new excise tax under section 4979A....maybe it's because I'm not good at new stuff.

Kirk --- IRC section 7872 included an exemption for below-market-rate ESOP loans made in connection with the section 133 lender's interest exclusion. When section 133 was repealed, the corresponding 7872 exemption was repealed. The ESOP exemption in section 7872 was intended to allow for below-market-rate loans between employers and ESOPs ONLY in connection with "back-to-back" loan transactions contemplated by section 133. It was not intended to provide an escape from the possible consequences of imputed interest and imputed contributions on all ESOP loans. 20% ERISA work is enough to make one want to give it all up. Try to keep yourself closer to the 10% level. Is there a difference between a "retired" ESOP lawyer and an "unemployed" ESOP lawyer? When a lawyer who deals with retirement plans becomes unemployed, does he/she call it retirement?

Kirk --- The fact that an ESOP is tax-exempt does not eliminate possible problems with imputed interest in connection with a no-interest ESOP loan. To the extent that interest were to be imputed, there could be imputed employer contributions which might result in exceeding the IRC section 404(a) and 415© limits. Why take this risk? It's too bad that you're again stuck with doing ERISA work. I thought that you had negotiated your release.

Hi Kirk --- It's not prohibited under ERISA or the IRC, but it raises sticky tax issues....IRC section 7872, as well as sections 404(a) & 415© if it's an S corp or if the "1/3 test" isn't satisfied. In addition, it may raise shareholder issues if the ESOP is not the 100% shareholder or if non-ESOP shareholders don't consent. There may also be accounting issues....but I don't understand accounting well enough to know much about this. Also, could there be creditor issues? I thought you weren't doing ESOP work anymore.....