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Mid-Atlantic Chapter ESOP Association

LEGISLATIVE AND EDUCATION COMMITTEE

BI-MONTHLY TELECONFERENCE MINUTES

Friday, February 17, 2006, at 11:00 a.m.

The ESOP Association is a non-profit national trade group organized for the purpose of lobbying Congress, state legislatures, and federal regulatory agencies to enact legislation and regulations promoting employee stock ownership plans (ESOPs), and to educate the general public about ESOPs. The ESOP Association is broken down into regional chapters — the Mid-Atlantic Chapter (MAC) covers Eastern and Western Virginia and the capital region which encompasses Northern Virginia and the District of Columbia. Rick Mapp is the Chairman of the MAC Legislative and Education Committee, which meets by teleconference every two months to discuss recent legislative and regulatory developments impacting ESOPs. The minutes of the most recent MAC Legislative and Education Committee held on February 17, 2006, are set forth below.

Members Present:

Paul Horn
Shad Fagerland
Ron Gilbert
Tom Roback
Keith Robertson
Rick Mapp, Chairman

The following matters were discussed:

(1) Upcoming ESOP Breakfasts.

(a) The next Eastern Region ESOP breakfast will be held at the Holiday Inn Executive Center in Virginia Beach, VA, on Thursday, March 2, beginning at 7:30 a.m. The speakers and topics will be Matt Keene of the Principal Financial Group, who will address Managing ESOP Repurchase Liability, and Shad Fagerland of the Williamsburg office of Kaufman & Canoles, who will discuss newly-proposed cost accounting standards for ESOP costs for government contractors.

(b) The Maryland Region will host an ESOP breakfast in Baltimore on March 8, featuring a panel discussion of Maryland ESOP success stories.

(c) The Western Region will host an ESOP breakfast meeting on Thursday, March 16, in Staunton, VA, the subject matter of which will be Hot Topics in ESOP Administration and Fiduciary Responsibility. Speakers are Jan Singletary Thomas and Andrew Lohmann from the Hirschler Fleischer law firm in Richmond, VA.

(2) The ESOP Promotion and Improvement Act of 2005 (H.R 3111, S. 1319). Keith Robertson reported that House Bill 3111, the House version of The ESOP Promotion and Improvement Act, now has 13 co%u2011sponsors, including three representatives from Virginia (Virgil Goode, Eric Cantor, and Bob Goodlatte). Ron Gilbert was instrumental in securing Virgil Goode and Eric Cantor as two of the earliest co-sponsors, while Keith was recently able to secure Bob Goodlatte as well. It is the goal of this Committee to improve the number of co-sponsors to this legislation from Virginia, specifically Representative Randy Forbes from Rick Mapp’s district. Ron was also able to secure Senator George Allen as a co-sponsor of the companion bill in the Senate, S. 1319. The ESOP Promotion and Improvement Act would do several things, including making 1042 gain rollover treatment available for sales to S%u2011Corp ESOPs, allow for early withdrawals against ESOP balances for educational purposes or for the purchase of a principal residence, and eliminate the excise tax on SCorp dividends pass-through to ESOP participants. A summary of this legislation is attached as Exhibit B to these minutes

(3) Treasury Recommendations to White House on Retirement Plans. Treasury has recommended to Congress and the White House that all employer-sponsored defined contribution plans be eliminated. This global recommendation, if enacted into law, would also result in the elimination of ESOPs, even though ESOPs are not specifically mentioned in the Treasury recommendation. Michael Keeling, President of the ESOP Association, has advised resistance to the Treasury recommendations at the grass-roots level and has advocated that Association members voice their opposition immediately. Specifically, members of the MAC Chapter are urged to contact Treasury Secretary Snow with a request that ESOPs be specifically excluded from the Treasury recommendations.

(4) Virginia Legislation on ESOP-Owned PCs. Ron Gilbert reported on the progress of legislation currently pending before the Virginia General Assembly which would allow stock in professional corporations (PCs) in the fields of accounting, architecture, engineering, land surveying, and interior design to be acquired, within certain limits, by ESOPs. It is expected to be passed by March 6th. A summary of this legislation and its current status in the General Assembly is attached as Exhibit B to these minutes.

Adjourned at 12:15 p.m.

EXHIBIT A

Explanation of Reasonableness of H.R. 3111 & S. 1319, Section by Section

Section 1: The title, “the ESOP Promotion and Improvement Act of 2005”

Section 2: Under current law since 1984, when a C corporation pays dividends on an employee’s stock in an ESOP, and the employee receives the dividends in cash, the employee pays regular income tax on the dividends; but if the employee works for an S corporation that sponsors an ESOP, and the employee-owner receives a dividend on her/his ESOP stock, the employee-owner will pay regular tax plus a 10% penalty tax. Section 2 eliminates the 10% penalty tax on the employee owner’s dividends received on ESOP stock paid by an S corporation. There is ample legislative history that Congress in enacting the 1997 law permitting S corporations to sponsor ESOPs never intended to impose a penalty tax on dividends paid to employee-owners.

Section 3: The IRS interprets a 1989 law as imposing the corporate alternative minimum tax on dividends paid on ESOP stock. There is little legislative history to support the view that Congress wanted to discourage the paying of dividends to employee-owners participating in an ESOP. Section 3 clarifies that the 1989 corporate AMT law did not sanction taxing ESOP dividends.

Section 4(a): Current law since 1984 permits the owner of privately-held C corporation stock sold to an ESOP to defer his or her capital gains tax if after the sale the ESOP owns at least 30% of the C corporation, and the seller reinvests her or his proceeds in another U.S. operating corporation; but the 1997 law permitting S corporations to sponsor ESOPs does not provide this opportunity for owners of S corporation stock. Section 4(a) conforms the S ESOP law to the C ESOP law. (Data indicates that 75% of the ESOP companies created in America were incentivized by this provision of law, known as the ESOP tax-deferred rollover law.)

Section 4(b): The 1984 law referenced above was enacted before the boom in mutual funds, and does not permit the proceeds of the seller to be reinvested in mutual funds. Section 4(b) would modernize the 1984 law by permitting the proceeds from the sale to the ESOP to be reinvested in mutual funds consisting of securities of U.S. operating companies.

Section 4(c): Clarifies that anyone who owns 25% or more of the voting stock, or 25% or more of the value, of an ESOP company, cannot participate in the ESOP with stock sold to the ESOP utilizing the provision described in Section 4(a). Current law oddly prohibits the 25% or more owner of any class of stock from participation.

Section 5: Current law permits a participant in a 401(k) plan to withdraw from an account limited amounts to help purchase a first home, or pay college tuition, without paying a 10% penalty tax on the withdrawn amount. Section 5 permits an ESOP participant to do the same.

Section 6: Current law, since 1986, imposes mandatory diversification rules on ESOP accounts for certain employees if an account balance is over $500. The $500 is not indexed for inflation and has never been adjusted since 1987. Section 6 raises the $500 to $2,500 in order to ease one of the administrative burdens on ESOP sponsors.

Revenue Impact: While there is no formal revenue estimate on H.R. 3111/S. 1319 at this time, its revenue impact should be reasonable, as all sections amend existing law on which there is years of revenue expenditure data. None of the data on these existing ESOP laws have evidenced large revenue losses. In fact, Section 2 is forecast to raise revenue, as it will trigger payment of income taxes on payments that are not being made and on which therefore no income taxes are being paid.

EXHIBIT B

Pending Virginia Legislation Permitting PC ESOPs

S.B. 108, the original bill, passed in the Senate by unanimous vote on 1/20/06.

The House version, H.B. 952, made some changes to the bill and passed in the House by unanimous vote on 2/6/06.

The bill was then referred back to the Senate Committee on Commerce and Labor, where it currently sits.

The latest version of the bill allows the shares of Professional Corporations (PCs) in certain professions to be held by an ESOP trust, which makes it possible for the first time for these enumerated PCs to sponsor an ESOP. The bill applies to accountants, architects, engineers, land surveyors, and interior designers. PCs formed by attorneys and medical professionals are NOT covered by the bill.

The following conditions apply to ESOPs sponsored by these PCs:

The trustees of the ESOP must be licensed professionals of the PC, except in specific conflict transactions in which case an independent trustee is permitted.
The ESOP must provide that no shares of the PC can be distributed to non-professionals, with the exception of distributions that are immediately bought back by the PC for cash.
The ratio of shares allocated under the ESOP to non-professionals must be less than one-half in the case of accounting PCs, and less than one-third in the case of the other listed professions.