401(k)/Profit Sharing funds "transferred" to ESOP

[Belgarath]

We don't do ESOPs, so I know very little about them. But we've been asked by a client - "If I have a 401(k) to which I have made profit sharing contributions, (which are participant directed, by the way) and I want to establish an ESOP, and "transfer" the profit sharing contribution accounts to the ESOP, can I do this?"

I would assume not. But I don't know. I think you could establish the ESOP and make all future profit sharing contributions to that ESOP, but I don't see how you could force the participants to transfer their existing account balances to it without "converting" the 401(k) to an ESOP. And even if you can, it seems that there could be a gross breach of fiduciary prudence if the employer stock ever drops.

Any opinions would be appreciated!

[RLL]

Hi Belgarath ---

I think that the right of participants to direct investments is a plan feature that may be terminated....but this seems like a bad idea. Technically, there is probably nothing that would prohibit transferring the profit sharing accounts to the ESOP (subject to compliance with various IRC requirements). Whether or not such assets are then invested in company stock would then be a fiduciary decision....best considered by an experienced and truly independent fiduciary. What about allowing participants to direct investments into company stock (with independent fiduciary monitoring and disclosure appropriate to comply with applicable securities laws)?

[QDROphile]

And what fiduciary of sound mind would exchange liquid diversifed investments straight across for company stock, especially in a privately held company? This is an extemely sensitive proposition and I know many expert professionals who will have none of it.

[Kirk Maldonado]

I had a client actuallly do this about 20 years ago.

However, there were extenuating circumstances. First, the value of the privately held stock tripled in the following two years following its purchase by the ESOP. Second, the company more than enough cash in the bank to repurchase all of the stock held by the ESOP. Third, the net worth of the shareholders was between 10 and 20 times the value of the stock held by the ESOP.

Nevetheless, that is not something that I would recommend any client undertaking.