mbozek

Jon- there are two types of plans that invest in employer stock: (1) Stock bonus plans (which can be an ESOP) which are designed to invest primarily in employer stock, e.g., they do not offer diversified investment options and conform to other specific rules for ESOPs, and (2) profit sharing plans including plans with a 401(k) feature with diversfied investment options under ERISA 404© which also make employer stock available as an option. A 401(k) plan permitting investments in employer stock has no statutory exemption from the ADEA anymore than it is exempt from the securities laws. Under the IRC, an ESOP can restrict the employees' right to diversify investments until the employee attains age 55 and has 10 years of participation but that provision is not available to a 401(k) plan that makes employer stock available as an option. I have reviewed many 401(k) plans offering employer stock that are not qualified as ESOPS. As for the basis issue in employer stock if there is one thing I have learned in reseaching the IRC is that common sense is NOT available for interpretating the IRC. Only the statutory language can be used. The code completely conflicts with common sense.

Jon- The Enron plan that has been discussed in the news has been widely reported to be a 401(k) plan (not an ESOP) which had a blackout period in Oct. Second qualified plans including ESOPS are not exempt from having to comply with federal age or sex discrimination laws since ERISA does not preempt the application of other federal laws. There is a long line of employers who have been found to violate ADEA /sex discrimination laws in their benefit plans even though they complied with the tax laws. It does not really matter what the basis for liability is because Enron is bankrupt and the employees are nothing more than general creditors who have a better chance of recovery against Enron's advisors then Enron. As for your statement about the cost basis in actively trading employer stock I cannot find any statement issued by the IRS to support it unlike other nuanaces regarding employer stock distributed from a plan.

Belgarath- IRC 4975© provides that a prohibited transaction includes lending of of money between the plan and party in interest. A service provider such an an insurance company providing a policy to a plan participant where the policy is owned by the plan is a party in interest. I would not recommend that a plan trustee enter into a loan with an insurance co under these circumstances. Also would not UBIT apply on the sale of assets in the particpant's account which are purchased with the loaned funds because they are debt fianced property?? Isn't the bottom line that your proposal contains too many unclear/ complex tax issues to the plan and the participant to be worthwhile pursuing since outside advisors such as an attorney would have to be retained?

Carol: I am not sure that the employer is off the hook on the applicable withholding taxes just because the employee lied on a form. FICA taxes can be collected from a responsible party of the employer and there is no S/l for back taxes. Second I question the wisdom of your requirement to get a certification from the employees- What if employees do not send back a certification? There are many employees who cannot be fired or disciplined for noncompliance, e.g., tenured faculty, senior executives, employees under contract. Also asking sfor a certification may violate privacy rules of the employer. Better not to ask the question if employer is not sure that a favorable response will be provided. Better solution is to inform employees of the consequences of having two plans and the need to report contributions to outside plan to the employer because that is the most that an employer can do.

dmj1998 - What i I keep trying to empahsize is that many plans have strange provisions regarding trading of employer stock which are overlooked because no one reads the controlling documents. I am not questioning your statement that it is not a ficscally prudent way to run the plan (since the employees where able to trade against the plan for a no risk profit) but making u aware that there are many plans that have quirks in how the company stock is traded which creates a advantage for one side or the other which employees and their advisors should be aware of. By the way the plan I cited was for a public company. Incidentally some employees hire their own investment advisors to trade company stock for their 401(k) accounts via a power of attorney. Your 10% concentration is totally unrealistic in the real world since younger employees don't have discretionalry funds outside of the plan to invest hence will be 90%+ invested in employer stock and middle aged employees will be sitting on gains from years of tax free investments which will be well in excess of 50% of total investable assets which will not be easily sold because of plan restrictions. You also seem to forget that most large companiess go though cycles in stock price which makes continuous purchases at low prices a form of dollar cost averaging. E.g., in 1991 Citigrup was selling at the equivalent of of less than $2 a share- today it is at $50. Should Citigroup employees have stopped buying C in 1991? IBM was down to about $10.50 a share in 1993 today it is 110.

Belgarath- Why isn't your proposed transaction a prohibited transaction between the plan and a party in interest which will result in the imposition of a 15/100% excise tax?? Also why should a plan participant pay interest to borrow his or her own money on a nondeductible basis when the employee can have the entire cash value without cost and roll it over tax free to an ira??? Please explain the economic rationale for for your concept.

Jon - my response intended to demonstrate that many 401(k) plans have strange practices in allowing employees to buy or sell stock some of which create what you investment folks call market inefficiencies which can be used to the employee's advantage. Some plan provisions are adverse to the employees ( e.g., enron provision forbidding employees to sell ene stock before attaining age 50- which should have been considered a violation of age discrimination laws). Therefore employees and their advisors must review the plan provisions pertaining to purchase/sale of employer stock before buying or selling the shares. The larger problem which needs to be addressed by investment advisors is at what point does an employee become over concentrated in employer stock and how do you hedge/unwind the position. Most of the enron employees had all of their savings in ene stock either in the 401(k) plan or through stock options. In my example there should be no trading costs because the plan was using stock from inventory not stock traded on an exchange. I am also interested in your comments on NUA since employers only keep records of cost basis for tax reporting.

Whether or not this is a risk way to make money depends on how the plan books the sale of the stock on its records. Some plans record the sale of the stock based on the closing price on the prior day. Astue employees will log onto the system shortly before close and check the price of the stock. If the price is up over the prior days price they will buy or sell and log a profit relative to the price as of the close of the prior day (without paying any income tax or trading costs). Eg. if on day one the closing price is 39 and at 3:50 on day two the price is 40 the employees could buy the stock on day two at 39 locking in a profit of $1 when the stock is sold on day 3. There was an article in the WSJ about a year ago about a 401(k) plan where the employees gamed the system by selling stock against the plan (the stock was a form of inventory) which resulted in the plan losing several million $ (presumabley the losses were spread among all participants). The employees did not do anything illegal because the plan permitted the practice. The plan was amended to prevent this practice. So check to see how the plan determines the price of the stock. Despite what the investment advisors may claim this is not a very difficult thing to do. It is an application of the only wall street rule that counts: buy, low sell high. Also there is capital gains on employer stock on the net unrealized appreciation of the stock after it is distributed to the participant at a maximum rate of 20%.

I thought under IRS regs (1.415-8) that the the excess contributions would be deemed made to the 403(B) plan to prevent disqualification of the qualified plan in the event that the aggregate contributons exceed the 415 limits

A Qdro involving a distribution of benefits accrued under a church plan exempt from ERISA can be treated as made pursuant to a QDRO if it made pursuant to a QDRO which meets the requirements of IRC 414(p) -IRC 414(p)(11). I don't know if this means that if the parties agree to have the benefits distributed under QDRO rules then ithe QDRO can be enforced against the plan or that even though church plans are exempt from the QDRO rules, the plan administrator can accept a court ordered division of plan benefits which would meet the requirements of a QDRO without the participant incurring any income taxation on the transfer of plan assets to the spouse. The latter explanation is probably correct since church plans are not subject to any law they do not like e.g., they are exempt from ERISA .

Yes- a pre 1986 401(k) plan established for municipal workers where municipality is exempt from FICA tax. Also there may be some church sponsored 401(k) plans where the church is exempt from FICA tax or covers self employed ministers exempt from such tax. There are not too many of the the above around.

Assuming that the plan permits a withdrawal of less than a lump sum distribution, the participant can make a tax free rollover of the cash to an IRA in 2002 and take distribution of the LI policy in 2003 as a taxable distribution. But why not cash out the LI policy and rollover the entire distribution to an IRA? Is employee uninsurable? If not than LI policy is probably an expensive investment. There is one creative possibility: Tax free transfer of the LI policy and cash to a 0% money purchase plan established by ee for own business ,e.g., consulting. Employer can use protoype plan and only requirement would be that ee make some minimal after tax employee contribution or make er contribuion for one yr from consulting revenue. If ee anticpates profits from business establish a PS plan.

I didn't know that 403(B) plans have plan assets since participant's interest in plan are not held in trust like qualified plans. I thought he burden of filing the distirbution notice was on the custodian holding the assets since a 403(B) plan is treated as an IRA under the minimum distribution regs.

J & S annuity is only applicable to 403(B) plan sponsored by private 501©(3) organization which is a money purchase plan, i.e., provides for employer contribution on a regular basis, such as 5% of compensation a year. 403(B) plan can be established with no mandatory employer contribution, i.e., employer may make a discretionary contribution at the end of each year which is a form of profit sharing plan. No annuity beneift need be provided and distribution can be limited to lump sum only. Public employer is not required to offer J & S annuity under any type of 403(B) plan. Avoiding annuity option is prudent investment decison because annuity products usually come with high fees and load charges which can eat up 200-250 basis points a year plus commissions (exception is TIAA-CREF which charge 25-50 basis pts).

While I agree with your statements that the due dilligence process is less than ideal for qualified plans because important questions are frequently not answered before closing, in my practice there is always a caveat on buyer accepting assets from another plan until I am satisfied that it is qualified. I have advised clients not to accept asset transfers from seller's plans from which there were questions on the plan's qualification. Purchase agreement should always reserve the right of the buyer's plan to accept assets only if such plan is determined to be qualified in the opinion of buyers counsel. If counsel has reasonable doubt on the plan's qualification then don't accept the assets. The employees can uisually rollover the funds to an IRA and then into buyer's plan.

You seem to be looking for some kind of guarantee /immunization for the recieving plan if the transferred assets come from another plan. This is what due dilligence is all about. If there are questions about the transferring plan's qualified status under 401(a) then the assets should not be transferred until the questions are resolved. If there are no questions about the qualified status then the asset transfer should be completed. Only completely safe way of transferring assets is to spin off the assets of the tranferred employees into a separate plan and get an IRS determination letter.

Are all of the plan assets invested in one type of investment or does the VA contract offer investment choice among several options by fiduciary or participants? Client should seek professional investment advice regarding diversification if all assets are in one investment option.

Get current determination letter from transferring plan and get necessary reps that plan is qualfied in operation. IRS rules let transferror plan of direct rollover rely on rep from plan administrator that plan is qualified. Other option is to have participants rollover distribution to conduit IRA and then do rollover to buyer's plan.

Odd assets such as mortgages, non publicaly traded stock and real estate are difficult to transfer to IRA custodians because of all of the legal entanglements that such assets bring to the custodian such as legal liability for negligence or environmental issues (RE), compliance with applicable securities laws (privately held stock), obligation to enforce payment provisions (mortgages) / default issues plus requirment that an annual valuation of asset be given to custodian to satisfy IRS requirements. Only large institutions such as JPMorgan- Chase who maintain specialized departments for IRA assets would be willing to take it and will charge big bucks to act as custodian. You could also try a discount broker such as Charles Schwab to see if they have a specialized dept but you will still pay for service. Real question is how much is invested in mortgage. Maybe your client should cash out interest in mortgage (even if at a discount) and rollover cash to IRA. Also how many payments left before Mortgage is paid off? If payoff will be made in a short time keep asset in plan until payoff occurs.