Diversification requirement at age 55

[katieinny]

An HCE is in the qualified election period and is able to diversify his plan holdings. A question has come up about whether or not he MUST make the election during the first 90 days of the plan year. Is he limited to that time period? If so, why is that the case?

[stephen]

In a privately held company it would be very rare for the valuation and much less likely that the annual report will be completed in the first 90 days of the plan year. It seems unfair to make an employee make the election without knowing the current fair market value. It is my experience that most practitioners allow the participant to make the diversificaiton election once the share value is known.

[katieinny]

This happens to be a public corporation, although I don't think that matters. I've read 401(a)(28)(B) and it's a bit ambiguous. It says a participant "....may elect within 90 days after the close of each plan year...."

I think the argument could be made that a participant can make the election during the plan year -- but has up to 90 days after the plan year to make the election for the prior plan year. If it read "during the first 90 days of the plan year" I would be more convinced that the participant was limited to that period.

The plan's TPA is restricting the election to only those first 90 days, and I'm just not convinced that they should be doing that.

[stephen]

Does the TPA have the full allocation report complete within the first 90 days?

If not, what basis do they think the participant should be using to make his election?

[Guest tmills]

This topic has been discussed often at ESOP association meetings and I'm sure other places. I can't agree w/ your interpretation of 401(a)(28). It says a plan meets the requirements if a participant may elect w/in 90 days after the close of the plan year, etc., etc. The election period is the first 90 days and the action period is the second 90 days. The may means the participant may but does not have to make an election. There is nothing I see that would support what you are suggesting. With a publically traded company, I can't see the problem. The participant is normally electing a % to diversify. He may not know the exact number of shares, but that is secondary. If he is electing a number, it needs to be below 25% or 50% after the allocation is done.

One suggestion made by several people in the past is to allow a preliminary election w/in 90 days so the code requirement is complied with. When the allocation is complete, the participant makes a final diversification election. With luck everything can then be done w/in 180 days. That should not be a problem for a public company.

[katieinny]

tmills -- so, you agree with the TPA. If the participant doesn't make the election to diversify within the first 90 days of the plan year, he's missed the opportunity to diversify until the next plan year. I agree that the word "may" means that the participant isn't required to make such an election.

Maybe if I understood what was behind the 90 day rule, it would make more sense. Why shouldn't a participant be able to make an election to diversify his plan assets in July, August and September just as well as in January, February and March?

[RLL]

The 90-day rule is the statutory requirement under IRC section 401(a)(28)(B). But there is nothing that would prohibit provisions in an ESOP plan document allowing participants to make additional diversification elections (beyond the statutory minimum requirements).

[katieinny]

RLL: Ahhh. That's what I was hoping somebody would say. This plan does allow diversification during the year, but the TPA is sticking with the 90 day rule.

[Guest tmills]

I too would like to know what is behind the 90 day rule. Maybe at the time Congress thought only public companies had ESOPs. In any event, the preliminary and final election method is a reasonable alternative. Some TPAs preliminary election form is nothing more than a yes or no to a diversification question and it is the only thing completed in the first 90 days. When the valuation and allocation are complete, participants get a final election form with "current" shares and price on it and they elect the diversification %, subject to the 401(a)(28) limits. Note nothing in the code specifically allows this method, but given the policy reasons behind diversification and the good faith attempt to comply given the realities of share valuation, etc., it seems reasonable, at least for non-public companies. I still think a public company would have a harder time justifying this approach because it is usually the stock value that holds things up. They don't have that problem.

As RLL says, the plan document can be more generous. However, to the extent it allows more shares to be diversified than 401(a)(28) allows, you could have problems determining the number of shares available for diversification. It doesn't sound like your document does that. Of course it's always a good idea to get the opinion of the attorney who wrote the document.