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ESOPs Facing Tougher Scrutiny

One of the most common forms of employee ownership in the United States is the Employee Stock Ownership Plan or ESOP. These retirement plans were virtually unknown until 1974, but as of 2014, more than 7,000 companies had ESOPs, covering approximately 13.5 million employees.

An ESOP is a retirement plan that allows employees to own a share of their employer’s business. The employer contributes cash or shares of stock to a trust fund that holds the employee shares. In most cases, employees are given shares when they meet the qualifications as specified by their employer in the plan document. An ESOP is similar to a profit-sharing plan, except that the shares are held until the employee retires. In an ESOP, employees are part owners of the company with the right to vote their shares and have a say in major decisions of the company.

Employers must have an annual outside valuation to determine the price of its shares of stock in an ESOP. A valuation of an ESOP is generally more complex than a standard business valuation. Due to the complex nature of these valuations, it is imperative that the valuation is performed by a professional who has considerable experience in valuing ESOPs.

ESOPs face scrutiny from both the Internal Revenue Service and the Department of Labor (DOL).  The DOL has been focusing on ESOP appraisals in its enforcement program.  In many of these cases, lack of compliance with fiduciary responsibility requirements is the overriding problem. A primary issue that DOL continues to face is that the individual who selects the appraiser for the valuation – a fiduciary function – is an owner of the company, i.e., ultimately the seller of the business. As a result, the DOL continues to see cases in which ESOP sponsors have been accused of using inflated company stock valuations to enable the owners of the company to sell their shares to the ESOP at a price that is above fair market value.

In April 2016, the DOL released its final fiduciary regulation package. One of the key takeaways in this regulation was that the DOL concluded that ESOP valuations present a number of special issues that will be addressed in a separate project in the future. As the number of ESOPs continues to grow, it is in an employer’s best interest to stay on top of current DOL regulations and court cases regarding this hot topic. Additionally, it is highly encouraged that employers with ESOPs implement more requirements for objectively selecting and overseeing a valuation professional, analyzing the fiduciary process and documenting the valuation analysis.

If you have any questions, please contact Ken Kobiernicki or your ORBA advisor at 312.670.7444. Visit for more information about our Employee Benefit Plans Services Group.

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