Dividends Used to Repay Loan

[Scott]

When a C corporation pays a dividend on stock held by an ESOP, which the ESOP uses to make payments on an exempt loan, the C corporation can take a deduction for the dividend. Does the dividend or the corresponding release of shares by the payment on the loan count towards the Section 415 limitation?

Would the answer to the above question be the same in the case of an S corporation, which does not get a deduction for the payment of dividends?

[RLL]

Scott....you certainly have a lot of ESOP questions lately!

Annual additions under IRC Sec. 415© are contributions and forfeitures allocated to a participant's account. A dividend paid on employer stock held by an ESOP is income of the ESOP trust, not an annual addition....unless, but only under very extraordinary circumstances, the IRS were to recharacterize the dividend as an employer contribution. When dividends are used for payments on an ESOP loan, the shares released are also not annual additions (absent circumstances that permit recharacterization).

The same would apply to an S corporation ESOP .....the dividend is not an annual addition so long as it is a true "dividend" (or S corporation "distribution" for tax purposes) and not a "disguised" employer contribution. In a recent PLR, the IRS stated that S corporation dividends may be used for ESOP loan payments if paid out of the company's earnings and profits (accumulated while it was a C corporation) or out of the S corporation "AAA" account.

[This message has been edited by RLL (edited 09-13-1999).]

[EGB]

Does nayone have the PLR cite handy?

[RLL]

The PLR is dated 7/2/99, but has not yet been released to the public or assigned a PLR # by the IRS.

The PLR is summarized in the "Legal Update" article in the September 1999 issue of ESOP Report, the monthly newsletter of The ESOP Association.

[Dawn Hafner]

That PLR states though that only dividends (distributions) on suspense may be used to service debt. The IRS is taking the stance that the distributions relating to allocated shares can not be used to service debt, unlike a C corporation can.

[Scott]

Does anyone know how I could get my hands on either the PLR or an article summarizing it? I am not a member of the ESOP Association, so I don't get the ESOP Report. Thanks.

[RLL]

You can wait until the IRS releases the PLR to the public.....should be next month.

For someone who has so many ESOP questions, you should definitely join The ESOP Association. Membership cost is minimal compared to the benefits. Go to www.esopassociation.org.

Also, you should consider joining the National Center for Employee Ownership at www.nceo.org.

[RLL]

PLR 199938052 is the one that says that S corporation distributions (dividends) on allocated shares may not be used for ESOP loan payments.