ESOP Guy

I have a little problem with the idea of an ee choosing to default on a loan. I think one needs to go back and read the promissory note. In every TPA firm I have worked for the promissory note is clear that as a condition of the loan the person is agreeing to have the payment come from their check via payroll deduction. I have always had mixed feelings regarding one party in effect declaring the contract null and void like that. So my comment assumes in this case the promissory note has that language in it. If it doesn’t obviously my comment doesn't matter. And not being an expert in contract law maybe someone can just refuse to up hold their end of a contract and the breach in this case might be the loan become due at the point of breach. And that has the same result. I guess what I am saying is I think there may be a consideration(s) outside of mere qualified plan law one might want to look at. I think there have been threads on this issue before, some not that long ago even. But since ESOPs basically never have loans like we are talking about and it has been a while since I really worked 401(k)s etc with lots of loans I fully admit at this NOT being an area of expertise of mine.

There is no rule that keeps a child of an owner out of a 401(k) plan. Since there is so little data one can only speculate as to why the son is being kept out. The most likely reason is because he is the son of an owner he is automatically a Highly Compensated Employee (HCE). And IF this plan needs to pass the ADP/ACP tests doing this helps the plan pass. In those tests the group average rate of deferral and match for the HCEs can only be higher than the Non-highly Compensated Employees (NHCEs) by a small amount. So if the son isn’t allowed to defer he is a zero and that helps keep the HCE group average down. In short the father is using the son’s inability to defer to allow him (the father) to defer more. Simple example: If the father is putting in 10% of compensation and the son is required to put in 0% of compensation the group average is 5%. Once again I am GUESSING at this point with the above. One would need to know more facts to stop guessing. This seems like one of the more common reasons one sees what you are seeing. If the company uses a TPA to help them run the plan they should talk to them. They should be able to spell out a number of strategies that allows the father and son to meet their goals while working within the constraints of what everyone can afford. But only someone like the TPA working with the company will have enough facts to help you more. edit: minor typo

Thanks guys I just missed it. There it is in the document and code. I have been doing ESOPs for almost 18 years now and if I ever had someone push this idea before now I don't recall it.

Does anyone have anything more up to date? I found a Q&A from 2006 at an American Bar Assoc meeting. We have an ESOP participant that was rehired before the 5 year wait to start distributions was over. So we are taking the position that now he is in employement he can not take a distribution. He is saying it is 5 years after he terminated so give him his money. Any thing good cites will help. This is one of those things that happens all the time that the authorities seem to refuse to give good guidence on how to deal with the situation. Thanks.

Here is the offical IRS website announcement regarding your question and the answer given by Acox. http://www.irs.gov/retirement/article/0,,id=238943,00.html edit fix to give correct credit.

TPApril The other way of putting it the method you have historically used is the more (maybe most) conservative method—and thus most safe from being challenged by the government. The prior TPA appears to be using one of the more (maybe most) aggressive methods that could be more open to challenge. This method will tend to show the test as passing more often than the method you used. At this point the question becomes how much risk are you willing to lead your client towards? Good one GMK

I would add when this question first came up I looked at the base document for most of our prototype plans it seems rather clear you have to pay back everything that was paid out regardless of source. So I would check one's document also. However, none of us have given a good answer to the actual question. I am guilty also.

This Relius tech update takes the position that for a DC plan a combination of the PPA statement and the distribution form should do it. A DB plan is different. Relius also offers for people who use their service a draft of a statement one could use. http://www.relius.net/News/TechnicalUpdates.aspx?ID=578

This isn’t a 100% direct response to your question, but I believe the following warning is relevant. Sorry if this is a little long, but the best way I know to explain the concept is to tell the story. I am assuming this is a traded stock as it wouldn’t seem likely one is going to get an appraisal of a closely held stock every few months. However, if this was a widely traded stock I don’t see the issue of a daily limit. I did once work with a client that had a publically traded stock on one of the smaller NASDAQ type of listings. So while traded it was a very thinly traded stock. A buy/sell of 5000+ shares could move the market for a day or two. One of the employees in the KSOP slowly moved all his money into the stock fund. The fund would buy or sell for internal accounting purposes at the closing price of the day the request was made. After this employee had accumulated a large balance in the stock found he started a scam. This employee would sell 100% of the stock in his account on day 1. His stock was sold from his account and put into cash at that day’s closing price. His account was so large that the stock fund had to actually sell shares to get the cash needed to have enough cash in the cash fund. In fact it would be a large enough of a sale it would move the market down on day 2. The employee would put in a request to buy stock on day 2. His account was credited with the stock purchase with the ending day 2 price. He got the price his own sale had just suppressed. The next day however, the stock fund would have to buy stock to have as much stock as the sum of everyone’s accounts said they had. So on day 3 the fund would buy stock and the buy was often large enough to move the market up. He typically wasn’t so bold as to sell on day 3. The employee would wait a while and start the process over. The general effect of this was he was stealing his fellow employees’ money. The employee got caught, fired and they even got him to disgorge his ill gotten gains. But if this is a thinly traded stock think through people trying to game the price if you allow a buy/sell daily.

In this thread I wasn't sure Recline's answer was correct for those facts. (Although in that thread I was willing to be told he was right so no offence attended towards you Recline) But I believe his answer is relevant for your facts. But VCP is NOT my strongest area of knowlege. http://benefitslink.com/boards/index.php?s...l=lost+earnings

My first suggestion is to make sure your fee agreement with the client is very clear what is out of scope. There is an excellent chance they are going to have to pay you a lot of money to help them get out of this problem. They may have to pay their attorney a bunch of money also. This is a classic case of someone being penny wise to end up a dollar foolish. His not coming to you guys up front is going to hurt. For an answer along the lines you were expecting and needing. 1) Whoever gave this loan and thought they had shares securing the loan is most likely wrong. The anti-alienation rules are going to stop them from ever getting those shares if the loan goes into default. Although if the loan goes into default that may mean the company isn’t worth anything anyway. http://www.ecrllc.com/safequalifiedplans.asp 2) A problem I see here this is a prohibited transaction. http://www.irs.gov/retirement/participant/...=211437,00.html This seems like a self dealing that violates these rules. 3) Maybe a violation of the exclusive benefit rule is bigger than the PT. I believe they have disqualified the plan. By the way in case it isn’t obvious since the securing of the loan was for the benefit of the sponsor and not the plan that is the violation. http://www.clausen.com/index.cfm/fa/firm_p...iary_Duties.cfm I think they have little choice but VCP to fix the problems with the IRS and I think there is a similar program with the DOL to fix the FT problems. I don’t see how they get out of that radical fix. This seems too big to be a self correction.

Convince the nim nut(s) who decided to put over 100 investment choices in a plan to get a grip on reality? Be honest that is what you want to tell them even if you aren’t going to do so.

Yes we do constantly say logic and the rules for qualified plan do not go together often. So far the firm I am working for appears to be willing to take the risk of not sending a statement to someone who is a "D".

I suspect I am breaking one of my own rules with this question. I suspect the rule I am breaking is am over thinking this problem but….. With most DC plans it seems to be the conventional wisdom is coming down to the idea if you send a participant a PPA statement with their balance and a set of distribution forms you have met the statement notice requirements referred to with question 8 of the 8955-SSA. But many ESOPs require a wait from the time of termination to payment—wait 5 years, wait until the loan is paid etc. So one does not send a set of distribution paperwork to them before you have to report them on the 8955-SSA. We have a copy of Relius’ notice format that they say meets the requirements. So we were going to send one of those notices to people who have to wait for their payment. However, for this notice one needs to report something that reflects what you put in Part III column (d) & (e). For most DC plans you put an A and A—Single Sum and Lump Sum. And historically that is what I have put and no one has questioned it as what most DC plans do. But it is rather common for an ESOP to pay over 5 years. So should one have been answering this questions B and B—Annuity payable over fixed number of years and Annually? You normally think of those answers only in the context of a DB plan. And for one thing the amount paid each of the 5 years isn’t going to be the same so what amount would you put for the answer in either 9(f) or 9(g)? Just double checking.

It would seem to be unclear, but everyone seems to agree what would the point of giving a statement to "D" people. Here is Relius' take on it, see 3rd question. http://www.relius.net/News/TechnicalUpdates.aspx?ID=578

Back in 2010 I took a Sungard Form 5500 class lead by Derrin. He mentioned you could split a plan say into one plan that had everyone with last names A-N and the next plan with last names M-Z to avoid the large plan threshold. I went back and looked they were even willing to mention splitting the plans into two plans in the handouts. If you have a relationship with Sungard you might want to see if you can get the reasoning behind their thinking. To me this seems like a very risky choice.

Are the shares publiclly traded? If not, I have never seen unitized accounting for a closely held corps stock in an ESOP.

Not my strongest point of knowlege but Rev rule 2006-38 requires one in this case to use the DOL rate. The ERISA book seems to be saying the same thing. http://www.irs.gov/pub/irs-drop/rr-06-38.pdf Edit: Like always willing to be told I am wrong, but like I said the ERISA book cites above Rev Rule on the interest rate.

I would add if you read a plan document it requires the plan administrator to determine the fair value of assets so he can allocate all earnings including unrealized gain/losses. I don’t see how they will do this. Maybe it doesn’t matter as he isn’t affecting anyone’s balance but his own. But I think a case can be made he isn’t following the document without a rational way to value the assets from year to year. If this is a 5500-SF or 5500 one would have to mark the question on the assets portion of the form that the plan has assets that are not being valued by an independent appraiser or a market. You might want to mention that is an audit risk. Ok, maybe not a large risk, but you are looking for a way to discourage this idea—so don’t mention size of risk. Lastly, if one doesn’t have a good value of the assets how does one determine loan limits, if plan allows loans? What if a QDRO comes along? What if he dies and the heirs want the money? There are those practical issues.

I agree also, forf makes no sense based on your facts. That is why I didn't talk about that method.

oh the questions one could ask about how this could happen...... If the amount doesn't appear to be material I would go with #3. Don't get me wrong I am not saying I can prove that is the correct answer, I am saying it is the simple answer and if the amount isn't material to the total assets and earnings go with simple. If the amount is material I would try and see if I can allocate to the people who had balances in 2003 as earnings. Then for people this would create balances I would determine if the newly created amout is material. If it creates a $1 balance for someone for example I would not give that person the allocation and reallocate to everyone else from 2003. I would SUSPECT that is more like the right answer. It seems like most corrections the idea is to get people back to where they would be if the error hadn't happened. My general rule is if not material go with simple and cheap solution. If material try and get people back to where they would have been if the error hadn't happend if there isn't an IRS given fix out there, and I doubt there is a IRS defined fix. Once again only opinion, I can not cite anything other than those guiding principles as to why I would do what I would do. And in all cases I would tell the client what I think is the right answer-- get them back to where they would have been-- an idea of the cost to do that. Then if not material give the first answer as an option, and the much lower cost of doing that. I would then recommend to them if they are uncomfortable with it all go talk to their lawyer. In the end I would make them tell me as the plan admin what they want to do after I think I have given them the tools to make an informed decision. Not sure if that helped or not.

Curious.... Why does the TPA have to report his client to the DOL?

The simple answer is the rules for an ESOP and any other DC plan for this form are the same. On a practical level you haven’t given enough information to determine if what you are seeing is a result of the correct application of the rules or a mistake. The important thing to remember is you are not required to report someone who is in payment status. So look and see are the people who were not reported are they getting a series of payments? If so, that would most likely be correct. Likewise, are the people who have been reported still waiting for their first payment? The next question is when to give a person who was reported as an “A” and then starts payment should be made a “D”. I think a strict reading of the instructions would say the year of first payment. However, people around this firm like to wait until the full balance has been paid. I have a somewhat related question for the group. We have a number of ESOPs that require one to wait 5 years before payment starts. The distribution form and the participant statement appear to meet the requirements for the notice you need to give a person as part of form 8955-SSA question 8. In this case one isn’t going to give a distribution form to the person for 5 years. What is the statement, letter, form you are giving out to meet this requirement look like?

Are the software vendors going to be able to get new software out if we have to start using the 2010 now? The due date is still 1/17/2012 and it can take Penison Reporter a month or more to get an update with a new form out to us. The IRS doesn't appear to have thought this one through on the practical side very much.

Three years-- Doesn't that mean you need to start gathering the information for the next submission? You slacker