Compliance January 7, 2011

IRS Rules ESOP not Tax Qualified

The U.S. Tax Court upheld a decision by the Internal Revenue Service (IRS) that an employee stock ownership plan (ESOP) and its employee stock ownership trust (ESOT) are not qualified under the tax code.
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Tax Court Judge David Laro asserted that the IRS was correct in deciding that the ESOP and ESOT plans of Michael C. Hollen’s dental firm did not qualify under tax code Sections 401(a) and 501(a) for the plan year ended on October 31, 1987, and for all plan years after that.

Laro explained that the IRS had four valid reasons for finding that the ESOP and ESOT were not qualified:

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  • The ESOP had not been timely amended to include provisions required by several sections of the tax code. Those sections included 402(c)(4)(C) (eligible rollover distributions), 414(n)(2)(C) (definition of employee leasing), 414(q) (definition of highly compensated employee), 414(u) (special rules for veterans), and 415(c)(3)(D) (participants’ compensation).
  • Plan amendments that the ESOP adopted did not make the provisions effective as of the required effective dates. 
  • The ESOP did not follow the vesting schedule required by Section 411(a)(2)(B).
  • The ESOP also failed to use an “independent appraiser” to appraise employer securities as required by Section 401(a)(28)(C), the court said.

The case is Michael C. Hollen D.D.S. PC v. Commissioner, T.C., No. 19618-08R.

Compliance January 7, 2011

Participants Lose Second Attempt in Medtronic Stock Suit

After filing an amended complaint, participants of Medtronic Inc.’s retirement plan failed to convince the court that the company breached its fiduciary duties by continuing to offer company stock as an investment option.

 

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Medtronic employees’ case against their employer has been struck down twice in less than a months’ time; the U.S. District Court for the District of Minnesota and the U.S. Court of Appeals for the Eighth Circuit both said employees failed to prove the medical device manufacturer was liable for retirement plan losses incurred by employees who invested in the company’s stock.

The Court of Appeals decision focuses on the employees’ claim that Medtronic and its top officials breached their Employee Retirement Income Security Act (ERISA) disclosure duties by: 1) incorporating allegedly misleading Securities and Exchange Commission filings into plan documents and 2) failing to disclose to employees nonpublic information about Medtronic stock.   

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Judge Patrick J. Schiltz ruled against the employees on both of these claims. Schiltz said the employees failed to show that they relied on the allegedly misleading statements.  “No recovery is possible—on behalf of the Plan, or on behalf of anyone else—unless someone read and relied on the misrepresentation,” the court said.  “Medtronic may have lied in its SEC filings, those lies may have caused the market to value Medtronic stock, and thus Medtronic may be liable to plaintiffs (and other investors) under the securities law. But this is an ERISA action, not a securities-fraud action.”

As for the second ruling—if company executives who serve as plan fiduciaries are required to disclose nonpublic information regarding company stock—Judge Schlitz said they are not required to do so.  “It is difficult to believe that Congress intended that ERISA—a statute governing employee-benefit plans—supplant the comprehensive and delicately balanced system of laws and regulations that define the information that a corporation must disclose to the investing public,” the court said.

The case has been ongoing since March 2010 (see “Medtronic Wins Company Stock Suit”).

The case is Wright v. Medtronic Inc., D. Minn., No. 09-CV-0443 (PJS/AJB). 

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