Leveraged ESOP Employer Contribution Limited

[Guest JBeck]

Let's say an ESOP loan provides for payments of principal and interest of $50,000 a year; and the employer can only contribute 30,000 for a year due to corporate loan restrictions. Is an option to come up with the 20,000 difference to use the existing cash in the ESOP which at one time may have represented an employer contribution to pay the lender, and then allocate the shares released with the 20,000? I did not think this was doable at least unless there was a loan default, and then I am not so sure you can relase shares based on the 20,000 payment, but this option has been suggested and I just wanted your reaction. The regulations talk about releasing shares based on and "employer contribution" which I interpret to mean a current contribution but it has ben suggested maybe not.

[stephen]

Could the company declare a dividend that could be used to pay on the note?

I am not sure if money in the plan can be used to make loan repayments as I have not seen this done in practice. I think if it were done the money used from participant accounts would be used prorata to pay on the note and would thus receive a prorata portion of the share release.

[Kirk Maldonado]

I think you need to retain competent ESOP counsel to advise you, especially regarding the applicable federal and state securities laws issues.

[RLL]

Under the ESOP regulations, only contributions made to the ESOP for purposes of loan repayment can be used to make payments on the ESOP loan. Assets in the ESOP that are attributable to employer contributions made for other purposes (including contributions made before the ESOP loan was incurred) cannot be so used without resulting in a prohibited transaction under the ESOP loan regs issued by the IRS and DOL in 1977.

This appears to be a case of poor planning. If the corporate loan restrictions were in effect at the time the ESOP loan was incurred, neither the company nor the ESOP should have agreed to this loan repayment schedule. If the corporate loan restrictions came into effect at a later date, the ESOP loan terms should have been modified to take into account the limitations on employer contributions. In addition, the company should not have agreed to such corporate loan restrictions without considering the effects on the ESOP and the ESOP loan.