What If You’re the Turkey?

The first Thanksgiving was held in 1621 in Plymouth, MA. More than two-hundred years later (1863), President Abraham Lincoln created the national holiday that we now celebrate. For most of us, this is a joyous time to get together with family and friends to reflect on our blessings.

But, no one ever asked the turkey how he felt about the festivitiesAccording to the U.S. Department of Agriculture, more than 45 million turkeys are eaten in the U.S. at Thanksgiving. The lesson for us: even in a celebration, there may be some that don’t share our enthusiasm.HZ1620

This can be true in Employee Stock Ownership Plans (ESOPs) as well. A common problem in ESOPs is the “have and have-not” issue. This situation is where some employees may have substantial company stock in their ESOP accounts and others have much smaller amounts of company stock. It is most common with mature ESOPs where all, or most, of the shares have been allocated, and there are few shares to allocate going forward.

This can happen in a variety of circumstances, but is most prevalent where the ESOP acquired a block of shares with a loan that resulted in large allocations as the loan was repaid. Those participants who were eligible as the loan was repaid are allocated the shares acquired with that debt, but then there may be no additional shares to allocate in future years.

To help manage the have and have-not issue, there are strategies that the company can use. For example:

  • Recycle shares when someone has a benefit event. Recycled shares are purchased by the ESOP and then allocated to remaining participants. This reduces the ongoing participants’ cash balance and increases their stock balance.
  • Re-leverage the plan. By refinancing the existing loan (or creating a new one), they can lengthen the time to repay the loan and therefore the time period for allocating shares.
  • Contribute new shares to the plan. The company can contribute (or the ESOP can purchase) additional shares for future allocation. 
  • Rebalance participant accounts. The goal of rebalancing is to have the same percentage of cash and stock in every participant’s account, regardless of the length of time they have been in the plan. 
  • If possible, use a longer loan period when establishing the ESOP. The longer the loan, the greater the time to allocate the shares and the more likely that through benefit events, recycled shares will continue to be available in the future.

There are legal and fiduciary issues with each of these approaches, and the plan sponsor should work with the plan trustee, their ESOP consultant and legal counsel to determine what is the best approach for them.

Careful planning can help minimize or eliminate the have or have-not issue. I’m not sure what to do about the turkey…

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In addition to blogging here, I also tweet regularly about topics of interest to ESOPs. Click to follow me on Twitter –  @jlripperger.

Affiliation Disclosures

While this communication may be used to promote or market a transaction or an idea that is discussed in the publication, it is intended to provide general information about the subject matter covered and is provided with the understanding that none of the member companies of The Principal are rendering legal, accounting, or tax advice. It is not a marketed opinion and may not be used to avoid penalties under the Internal Revenue Code. You should consult with appropriate counsel or other advisors on all matters pertaining to legal, tax, or accounting obligations and requirements.

Insurance products and plan administrative services are provided by Principal Life Insurance Company a member of the Principal Financial Group® (The Principal®), Des Moines, IA 50392.

© 2013 Principal Financial Services, Inc.

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