A qualified retirement plan that holds employer stock, particularly if the shares are not traded on an exchange, brings special challenges to the administration of that plan. Whether you are looking to start a plan, or the plan you have holds some or all of your employer stock, our talented team would love to help you with the administration. If you have been searching for and ESOP Company, you've come to the right place!
1. Stock Bonus Plan. The employer makes a contribution to the plan of stock instead of cash. The stock is allocated to all those eligible for a contribution that year. Profit sharing plans are allowed to have up to 10% of the plan assets held in the form of employer stock, as long as your document allows this.
2. Rollover Business Startups (ROBS) plans where rollover money is used to buy stock for a new business venture. With an individual account, the individual may elect to invest up to 100% of their account in the form of employer stock. By rolling cash into the plan, then using that cash to buy company stock, the cash is freed up to help with business expenses.
3. Employee Stock Ownership Plan (ESOP) is a plan designed primarily to hold employer stock. The plan can be leveraged (money is borrowed to buy the stock), or non-leveraged (shares are purchased for cash). ESOPs that own 100% of an S-Corporation stock may be able to eliminate corporate income taxes. Dividends can be paid on shares held by the plan. There is a lot of flexibility in designing an ESOP, and require the skills of an experienced ERISA attorney. As your ESOP Company (the TPA), we get involved in the feasibility studies with the attorney, then take on the administration after the plan design is complete.
Much of the administration of a plan that holds employer stock is the same as other profit sharing plans. One difference is that the employer stock must be valued by an independent appraiser each year. Valuations often cost between $5,000-$10,000 per year depending on the circumstances. We use that valuation in our work and the Form 5500 filing. ESOPs in particular also require a variety of other responsibilities in administration. Some functions that may apply include:
- Leveraged ESOPs. Shares are purchased through a loan. As loan payments are made, shares are released from a suspense account according to a formula outlined in the plan document. Those shares are allocated to active participants each year until the loan is fully paid off. Distributions from the plan may be delayed until the loan payments are complete.
- Reshuffling. Some plans want to eliminate stock from the accounts of terminated employees so that those former employees don’t share in future benefits of being a shareholder. Reshuffling is a process by which the stock in accounts of terminated employees is converted to cash. We transfer cash from active employee accounts to buy shares from the terminated employee accounts. After the transfer, the balance in each person’s account is the same as before the transfer, but just split differently between cash and stock.
- Rebalancing. A method to get more shares allocated to new participants is to rebalance all accounts. Rebalancing is when the accounts of each person in the plan hold the same percentage of stock and cash.
- Diversification. Once an employee has attained age 55 and has 10 years of participation in the plan they are eligible for diversification. A person eligible for diversification may elect to diversify up to 25% of their employer stock; transfer into another plan or IRA, or take the distribution in cash. This option is available for 5 years; the 25% is cumulative over the entire 5 years. In the 6th year, up to 50% may be diversified, reduced by prior diversification distributions.
- Repurchase liability. While participants are often offered a distribution in the form of stock, most prefer a distribution in cash. Repurchasing shares from a terminated or retired participant requires that there is sufficient cash in the plan to buy back those shares. Distribution timing plays an important role in mitigating the impact of large payments due by the plan. Understanding what the repurchase liability may be over the next several years is important for companies to understand, so that sufficient cash is available in the plan.
- Compliance testing. Most of the ESOPs that we administer run alongside a 401(k) plan also sponsored by the same employer. Whenever there are two plans that run side-by-side the plans must be combined for compliance testing purposes. Coverage testing, top-heavy testing, and non-discrimination testing must all be looked at on a combined basis. But that can be an advantage too! Top-heavy minimum contributions or Safe Harbor contributions due to the 401(k) can be made to the ESOP instead. That may help with the cash flow needed in the ESOP.
Administering ESOPs takes a special skill set. As an independent TPA that works with all types of plans, we find ESOPs intriguing and fun. If you have an ESOP and are looking for an ESOP Company to help with administration, or if you’re looking to set up a plan with employer stock, please contact us today! Click here to arrange for one of our pension consultants contact you. We would be happy to put together our services and pricing proposal to help you find the best solution for your needs.
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