© Copyright 2006 McDonald Hopkins Co., LPA All rights reserved 1 The Legal Framework for Repurchase Obligations Presented To: Ohio Employee Ownership Center By: John M. Wirtshafter McDonald Hopkins Co., LPA (216) Friday, April 21, 2006

2 Legal Framework or Requirements Underlying Repurchase Liability Requirements come from four sources –Distribution requirements for qualified retirement plans, generally. –Distribution requirements unique to ESOPs. –Requirements that ESOPs permit diversification. –Unique distribution requirements included in the ESOP document.

3 Distribution Requirements for Qualified Retirement Plans Section 206(a) of ERISA –Payments to participants shall begin not later than 60 days after the end of the plan year in which the later of the following events occur: Date the participant attains age 65 or the normal retirement age specified in the plan (if earlier than 65), The tenth anniversary of the year the participant began participating in the plan, or The participant terminates from service.

4 Distribution Requirements for Qualified Retirement Plans Section 401(a)(9) requires that a qualified retirement plan provide the entire interest of an employee to be distributed by the “required beginning date” or in installments not exceeding the life expectancy of the employee and a designated beneficiary commencing on the required beginning date.

5 Unique Distribution Requirements for ESOPs Section 409(o): Distributions begin to a participant (subject to the participant’s consent) not later than one year after the close of the plan year: –In which the participant separates from service by reason of attainment of normal retirement age, death or disability; or –In which the fifth plan year following the plan year in which the participant separates from service.

6 Unique Distribution Requirements for ESOPs Section 409(o): Distributions may be delayed with respect to employer stock held in a participant’s account which were acquired with the proceeds of an ESOP loan until the end of the plan year in which the ESOP loan is paid.

7 Unique Distribution Requirements for ESOPs Section 409(o): ESOP must provide that, unless a participant elects otherwise, payments must be made in equal periodic payments (not less frequently than annually) over a period not longer than the greater of: –Five years, or –For participants with balances greater than $875,000 (for 2006, as adjusted) – five years plus one year for each $175,000 or fraction thereof by which the balance exceeds $875,000.

8 Unique Distribution Requirements for ESOPs Section 409(h): A participant who is entitled to a distribution has the right to receive his/her benefit in employer stock (unless the Company limited ownership because Company is an S Corp or if the articles of incorporation or bylaws substantially restrict stock ownership to employees or a qualified plan).

9 Unique Distribution Requirements for ESOPs Section 409(h)(4): If no public market exists for the stock, a participant who receives securities has the right to sell them back to the Company. This “put option” is exercisable at a minimum during two separate 60-day periods. Obligation is on the Company, not the ESOP.

10 Diversification Requirements Creating Repurchase Liability Section 401(a)(28): Requires an ESOP to permit participants who are age 55 and have completed 10 years of participation in the ESOP to diversify a portion of their account balances. –25% of account for first 5 plan years –50% of account for the 6 th plan year Right is exercisable during 90-day period following close of each of five plan years following participant’s eligibility to diversify.

11 Fiduciary Issues in Handling Repurchase Liability Repurchase liability is an obligation and duty of the Corporation, not of the ESOP. Nonetheless, ESOP Trustee/Committee may need to review issues and concerns regarding repurchase liability. Duties often derive from the terms of the Plan and from the general fiduciary responsibilities of all plan fiduciaries under ERISA (e.g. reasonableness, prudence, etc.)

12 Trustee’s Duties In addition, ESOP Trustee/Committee often have multiple roles which may result in their having conflicting corporate and trust fiduciary issues –Consider using independent trustee. May want to or need to assist ESOP sponsor in considering options that minimize repurchase obligations. May have a fiduciary responsibility on behalf of plan participants and beneficiaries to ensure that the Company has sufficient cash flow to meet its debt obligations.

13 Company/Trustee’s Duties Options for sponsor/trustee to minimize repurchase obligation pressure: –Adoption of statutory delay period. –Distribution of ESOP accounts to non-retiree terminated participants. –Distribution of ESOP accounts in a lump sum in stock and pay put option over five years. –Distribute ESOP accounts over five plus year installments. –Convert the account of terminated employees to cash immediately after termination.

14 Repurchase Liability Study Trustee cannot request formal repurchase obligation study or make internal estimate. Trustee purchasing stock has a fiduciary duty to assess whether the Company is able to repurchase stock. If the trustee determines that the Company cannot meet its obligation, can not follow through with sale, require Company or selling shareholder to find a guarantor or renegotiate terms with the sellers.

15 Monitoring Repurchase Obligations No specific requirement to perform periodic repurchase liability studies. Trustee guided by general obligations under ERISA.

16 Thank You