When and how are ESOP Perks Redeemed?

When an employee stock ownership plan user's service is ended during early retirement, incapacity, or death, the employee stock ownership plan is often obligated to begin dispersing that employee's vested gains during the plan year after the retirement, disability, or death.

Plan member distributions can be provided in a lump amount or in essentially equal increments over a five-year or less period, with payments made at least yearly — although they can also be made at shorter intervals. Exceptions to distribution timing criteria can be allowed for plans with large balances, extending distributions by one year for every $230,000 in excess of $1,165,000 in balance (in 2021; amounts are updated annually by the IRS).

These distribution time criteria, however, include two major exceptions for employee stock ownership plans:

1.    If employment is terminated or separated from service for reasons other than retirement, disability, or death, payments can be deferred until no later than the sixth plan year after the plan year in which employment is ended. When an employee's employee stock ownership plan balance exceeds the cash-out provisions of the plan, the employee may choose to delay the distribution until retirement age or some later period, as specified in the company's written ESOP plan.

2.     If the ESOP is leveraged, that is, the ESOP trust borrowed cash to acquire shares of the firm, the corporation can normally postpone the distribution of share values until the plan year after the plan year in which the ESOP loan is fully paid off.

Special regulations apply to shares bought by the ESOP before to 1987, which may allow payouts to occur far later than the current ESOP plan criteria. It's also worth noting that these are the federal minimum criteria for ESOP payouts.

While participants are still working, there are other alternatives for in-service distributions. Any of the following exclusions must be articulated in the ESOP's documented distribution plan and policy documents:

• Distribution of benefits to working workers beyond the age of 70-12
• Employees receive direct dividend payments.
• After a defined term of employment, in-service payouts are made. These are known as "Hardship" distributions.
• Employees over the age of 55 who have been plan contributors for more than ten years are eligible for diversification payouts.