ESOP Floor Price Concerns

Posted by Aaron Juckett, CPA, CPC, QPA, QKA on Thu, Apr 19, 2012
Find me on:

The March 15, 2012 Employee Ownership Update is online and discusses the following:  

  • Employee Engagement Remains Dismal

  • Sixth Circuit Breaks with Other Courts on Moench Presumption

  • SEC Challenges Pre-IPO Trading in Secondary Markets

  • Second Thoughts on Floor Price Protection?

ESOP Floor Price Concerns

We have previously discussed the use of ESOP Price Protection/Floor Price Agreements and reviewed a related Private  Letter Ruling on the subject.  We have also shared how Treasury has cited some fiduciary and tax concerns with Floor Price Protection.  The Update shares some unofficial comments from an IRS representative that again raise some concerns:

"We don't like this for two reasons. One, you have a provision that is setting the plan up to perform a valuation that won't necessarily reflect true value. Number two, this is really a hypothetical future event that you're asking us to endorse at the time the submission is made. You're saying without regard to any debt that is incurred by the ESOP to the shareholder to a later purchase of the stock in a leverage transaction, that's talking about something that's going to happen in the future that you want us to basically approve today. We would say, "I don't think that's appropriate. We would have a problem with it."

Sixth Circuit Rejects Moench Presumption

While a plan fiduciary has an ERISA Fiduciary Duty to diversify the investments of the plan unless it is clearly prudent not to, the rules are different for ESOPs because they are "designed to invest primarily in qualifying employer securities" and Courts Almost Always Give Presumption of Prudence For Company Stock in ESOPs. The Sixth Circuit had been one of the courts that was considered to have affirmatively adopted the Moench presumption, which grants a presumption of prudence for investment in employer stock in an ESOP.  The Update discusses how Pfeil v. State Street Bank and Trust Co., No. 10-2302 (6th Cir. Feb. 22, 2012) broke with the presumption of prudence and challenged the trustee for retaining employer stock as an investment opton:

In Pfeil v. State Street Bank and Trust Co., No. 10-2302 (6th Cir. Feb. 22, 2012), the Sixth Circuit Court of Appeals broke with other circuit courts on the issue of when plan trustees deserve the presumption of prudence for investments in company stock (the "Moench presumption"). Other courts have ruled that if the plan is an ESOP, or is a 401(k) explicitly designed to invest in employer stock, then company stock is considered prudent unless the fiduciaries know or should have known that the company was in dire financial circumstances.

This case looked at the ESOP component of GM's 401(k) plan. Employees could purchase shares in the plan. They challenged the trustee of the plan for retaining it as an option. State Street asked for dismissal based on the prudence presumption, but the court said its standard, as set out in Kuper v. Iovenko, 66 F.3d 1447 (6th Cir. 1995), raises a higher bar, at least at the pleadings stage.

Study Measures Employee Engagement Levels

It also shared the results of a survey that found that U.S. Employee Engagement Levels Increased From 2010 to 2011.  The study found that 29% of employees said they are “actively engaged”, 59% are ambivalent, and 12% are actively disengaged.

ESOPs and Corporate Tax Reform

The March 1, 2012 Employee Ownership Update is online and discusses the following:   

  • President's Tax Reform Proposal Would Change S Corporation Taxation

  • SEC No-Action Letter on RSUs in Private Companies Says RSUs Do Not Count Under Shareholder Limits

  • Iowa Closer to Passing Employee Ownership Law

  • NCEO Works with South Africa on Employee Ownership

This Update discusses how the President’s Corporate Tax Reform Proposal would impact S Corporation taxation.

Topics: Studies and Statistics, litigation, Employee Stock Ownership Plan (ESOP), Communications and Culture

Aaron Juckett, CPA, CPC, QPA, QKA
Written by Aaron Juckett, CPA, CPC, QPA, QKA

Aaron is President and Founder of ESOP Partners and provides implementation, administration, and consulting services to hundreds of companies. He is a member of The ESOP Association (TEA) and the National Center for Employee Ownership (NCEO).

Keep Your ESOP On Track and On Time
12 Benefits of Incorporating an ESOP in your Business Exit Strategy

Recent Posts