Key takeaways
The Retire Through Ownership Act incorporates longstanding IRS valuation principles into ERISA, providing ESOP fiduciaries with a clearer valuation framework.
Greater valuation certainty may strengthen defenses against litigation, but fiduciaries should not expect ESOP valuation challenges to disappear.
Organizations should review fiduciary liability and D&O coverage, and work with advisors experienced in ESOP-related risks and employee ownership.
The Retire Through Ownership Act brings long-sought clarity to one of the most litigated issues facing employee stock ownership plans (ESOPs): the valuation of privately held company stock. By formally incorporating established IRS valuation principles into the Employee Retirement Income Security Act of 1974 (ERISA), the law provides fiduciaries with a clearer framework for evaluating ESOP transactions. While that change may strengthen defenses against valuation challenges, organizations should not assume litigation risks will disappear overnight.
Greater certainty for ESOP valuations
Under ERISA, ESOPs are permitted to purchase employer stock if they pay no more than “adequate consideration” or the fair market value of the stock as determined in good faith by fiduciaries. Standards were borne out of the common practice of valuation, litigation, or Department of Labor enforcement actions, in the absence of specific wording in ERISA law. Historically, that has resulted in ambiguity for ESOP fiduciaries, which the Retire Through Ownership Act aims to address.
The new law — which received overwhelmingly bipartisan support in Congress and was signed by President Trump on Oct. 15 — amends Section 3(18) of ERISA, clarifying that an ESOP fiduciary may rely in good faith on a valuation prepared by an independent valuation expert or business appraiser that applies the principles and methodologies established under IRS Revenue Ruling 59-60. With IRS principles now expressly incorporated into ERISA, fiduciaries, trustees, and valuation professionals have a more clearly defined reference point when determining the fair market value of privately traded company stock.
The Retire Through Ownership Act could strengthen fiduciaries' defenses against valuation-related claims and may reduce certain valuation disputes. Plaintiffs, however, can still challenge fiduciary processes, the independence of appraisers, conflicts of interest, assumptions used in valuations, and other ERISA fiduciary duties.
Insurance still matters
The new law provides ESOP fiduciaries, trustees, directors, and officers with important clarity about valuation processes and is expected to ultimately help reduce their risk. Still, they should remain cautious.
ESOP fiduciaries should not expect a sudden halt to litigation challenging valuations. That makes it vital for them to understand the relevant forms of insurance, including:
Fiduciary liability insurance, which protects ESOP fiduciaries from claims alleging breaches of their ERISA responsibilities. Fiduciary liability policies respond to allegations involving stock valuations, conflicts of interest, plan administration errors, and other fiduciary decisions made on behalf of plan participants.
Directors and officers liability (D&O) insurance, which protects companies and their leaders from claims arising out of management and governance decisions. For ESOPs, D&O insurance helps address exposures related to corporate transactions, regulatory scrutiny, and other leadership decisions that can impact organizations and their employee owners.
Fiduciary liability and D&O insurers will likely monitor the new law’s implementation and legal interpretation before making any significant underwriting adjustments. Eventually, the law could lead to more favorable insurance market conditions, but any change will not be immediate.
The right approach — and the right advisor
For fiduciaries, it’s vital to take a coordinated approach to fiduciary and D&O insurance coverage. Plaintiffs frequently name a broad range of parties in ESOP litigation, and the allegations often span both fiduciary and corporate decision-making.
Given this, organizations should work with their insurance brokers to understand how their fiduciary liability and D&O policies would respond to valuation-related disputes. They should also work with advisors to review policy language and structure.
For organizations with ESOPs, it’s essential to work with brokers who have specific ESOP expertise. Look for a broker that understands the risks that come with employee ownership and who can help you anticipate exposures, strengthen protection, and adopt insurance and risk strategies that can help your business and leaders mitigate your valuation-related risks.
For more information:
Visit our Professional & Executive Risk webpage here. (opens a new window)
Contact a member of your Lockton team.
