One of the most important fiduciary responsibilities with administration of an ESOP is determining the fair market value (“FMV”) of the stock held in an ESOP on an annual basis and as of the specific date when stock is purchased or sold by an ESOP.
As required in IRC Section 401(a)(28)(C), privately held stock must be valued by an independent appraiser. Even though the independent appraiser is required by law, they are not currently considered a fiduciary at the time of this blog post.
While the independent appraiser values the stock held in the ESOP, the ESOP plan document will indicate which individual, entity, or group of individuals has the fiduciary responsibility of hiring the independent appraiser, reviewing valuation report, and determining the value of the company stock. While this duty normally falls to the ESOP trustee, the ESOP plan document should be carefully reviewed to determine if the requirement is directed to another fiduciary of the plan, such as the plan administrator, plan sponsor, administrative committee, or board of directors.
An ESOP fiduciary should be sure to complete at a minimum the following steps in determining the value of the company stock:
Read the valuation report and make an effort to understand it.
Verify the company information in the report is accurate and that the assumptions made by the appraiser make sense.
Review the report with the appraiser and verify that the methods used by the appraiser seem appropriate.
The ESOP fiduciary needs to show a valid effort in the review and determination of the stock valuation. To sum it up nicely, a federal court of appeals stated in the case of Donovan v. Cunningham, 716 F. 2d 1455:
“An independent appraisal is not a magic wand that fiduciaries may simply wave over a transaction to ensure that their responsibilities are fulfilled. It is a tool and, like all tools, is useful only if used properly.”
If you need assistance locating an appraisal firm that is well-versed in ESOP valuations, please feel free to contact us.