Frequently Asked Questions

  1. How many ESOPs are there in the United States?
  2. What kind of privately held company is a good ESOP candidate?
  3. Is an ESOP expensive to set up and maintain?
  4. Are ESOP companies more productive than non-ESOP companies?
  5. Who votes the shares of employer stock in the ESOP?
  6. Am I a plan fiduciary?
  7. Can I purchase fiduciary insurance?
  8. Who determines the value of company stock in the ESOP?
  9. Will I have to divulge financial data to my employees and adopt an open book policy for financial records?
  10. If the ESOP owns 50% or more of the employer stock, do employees have to be on the Board of Directors?
  11. Are ESOP participants taxed on their ESOP account?

1. How many ESOPs are there in the United States?

A. As of 2012, the National Center for Employee Ownership (NCEO) estimates there are approximately 11,000 employee stock ownership plans (ESOPs) and stock bonus plans covering over 10 million employees.

2. What kind of privately held company is a good ESOP candidate?

A. Good candidates have the following characteristics:

  • The company has strong cash flow and a history of increasing sales and profits of at least $500,000.
  • The company has consistently paid federal income taxes.
  • The company has substantial stockholder equity.
  • The company has at least 25 employees with a total payroll of $1,000,000.
  • The company has capable second line management in place.

3. Is an ESOP expensive to set up and maintain?

A. ESOPs do have certain legal and administrative costs, but they are not excessive. The initial set up costs can vary depending on the complexity of the transaction. Annual ongoing administrative expenses are much like a regular profit sharing retirement plan with the exception of the annual independent appraisal fees. We believe the benefits to both employer and employees exceed the costs dramatically.

4. Are ESOP companies more productive than non-ESOP companies?

A. A 2000 Rutgers study found that ESOP companies grow 2.3% to 2.4% faster after setting up their ESOP than would have been expected without it. A 1986 NCEO study found that employee ownership firms that practice participative management grow 8% to 11% per year faster with their ownership plans than they would have without them. The NCEO data have been confirmed by several subsequent academic studies that find both the same direction and magnitude of results.

5. Who votes the shares of employer stock in the ESOP?

A. Normally the Trustee(s) of the ESOP vote the shares. There are seven defined events that will trigger a vote pass through to participants. They are: merger, liquidation, recapitalization, sale of substantially all of the assets of the corporation, dissolution, reclassification and consolidation. If one of these events occurs, then adequate disclosure of the issue at hand must be given to the ESOP participants and they must have the right to confidentially direct the Trustee as to the vote on the shares allocated in their ESOP account.

6. Am I a plan fiduciary?

A. The trustee(s) of the ESOP are usually senior officers of the company. They have fiduciary responsibility under the Employee Retirement Security Act of 1974 (ERISA) and it is their duty to operate the plan for the exclusive benefit of the plan participants and their beneficiaries. As the ESOP is designed to invest primarily in the employer securities, the Trustee(s) must take great care not to pay more than fair market value for the stock being acquired and approve the annual appraisal of employer stock.

Corporate board members are also fiduciaries of the ESOP and can be held liable for breaches of fiduciary duty.

7. Can I purchase fiduciary insurance?

A. There are typically three types of insurance coverage relating to an ESOP.

  • Fidelity Bond-ERISA section 412(a) requires that every fiduciary of an employee benefit plan and every person who handles funds or other property of the plan must be bonded. The amount of the ERISA fidelity bond is fixed at the beginning of each plan year and cannot be less than 10 percent of the amount of the funds handled. The amount of funds handled is determined by the amount of funds handled by the person, group, or class to be covered by the bond and by their predecessor(s), if any, during the previous reporting year. The bonding information is disclosed on Form 5500 Annual Return of Employee Benefit Plan.
  • Directors and Officers Liability Insurance-This covers present and future directors and officers for losses arising from claims they are legally obligated to pay. This coverage usually has ERISA plan exclusion but should be reviewed to see if it includes coverage for fiduciaries.
  • Fiduciary Liability Insurance-This coverage is for trustees and other fiduciaries that exercise any control or authority on the operations of the ESOP. Under ERISA section 502, the DOL can impose penalties on fiduciaries that violate the fiduciary responsibility rules. As fiduciaries are personally liable for any type of breach of duty, this coverage protects individual assets in case of a claim.

8. Who determines the value of company stock in the ESOP?

A. Valuation must be made by a qualified independent appraiser annually, and at any time the ESOP purchases stock. The DOL and IRS have issued guidance on the factors that must be taken into account when doing an appraisal of the company.

9. Will I have to divulge financial data to my employees and adopt an open book policy for financial records?

A. While there may be benefits to sharing full financial records with your employees, it is not mandatory. A Summary Plan Description, Summary Annual Report and annual statement of the participants ESOP account are all that is required to be disclosed. We do find that many ESOP companies that have 100% of the employer stock in the retirement trust do divulge some financial information at least annually with employees.

10. If the ESOP owns 50% or more of the employer stock, do employees have to be on the Board of Directors?

A.There is no requirement to have employees of the employer on the Board of Directors. The Trustee(s) of the ESOP are appointed by the Board of Directors of the company, and they vote all of the stock in the ESOP for the election of the Board of Directors.

11. Are ESOP participants taxed on their ESOP accounts?

A.Contributions and earnings accumulate on a tax deferred basis as the employee participates in the ESOP. Distributions from the ESOP are subject to taxation. Eligible distributions may be rolled over into an IRA or another qualified plan to further the deferral of taxation. We always encourage ESOP participants to get good tax advice before electing to take a distribution and to have up to date beneficiary designation elections on file with the plan administrator.