Valuation of Privately Held Stock in a Company Sponsored Retirement Plan
This document provides information for you to consider in reporting the value of private/company stock held by (or titled in the name of) your 401(k) Plan:
- What is the valuation requirement?
- When is a valuation required?
- What we need by way of the valuation for IRS Form 5500 reporting purposes
- Valuation firms we have worked with and have experience with Qualified Employer Securities (QES)/private stock in a 401(k) Plan
What is the valuation requirement?
An accurate assessment of the fair market value of a retirement plan’s assets (including privately held stock or qualified employer securities) is necessary for a 401(k) plans’ ability to comply with the many requirements of the Internal Revenue Code.
ERISA §3(18) allows the trustee or named fiduciary of the plan to determine in good faith the proper value of an asset which has no recognized market value. This is to be done in accordance with the regulations promulgated by the Secretary. Currently there are no final regulations issued by DOL.
Generally, ERISA §3(18) “provides in relevant part that, in the case of an asset for which there is no generally recognized market, adequate consideration means fair market value of the asset. . .” For securities where there is not a readily available market, DOL Reg. § 2550.408e(d) provides that “the price to the plan may not be less favorable than the price determined under ERISA §3(18).”
When is a valuation required:
Traditional investments made by a company retirement plan (e.g. 401(k) Plan) and its participants, such as mutual funds, public stocks, bonds, and ETF’s are generally publicly traded, resulting in a readily available, end of day value of such asset. Other investment types, particularly non-traditional investments, such as qualified employer securities (QES)/privately held company stock, qualified real estate, gold, horses, promissory notes and other hard money lending don’t offer a readily attainable value from day to day. It is generally acceptable to value these types of assets on an annual basis and/or under special circumstances (e.g. sale of such asset).
Initial Purchase of Non-Traditional Investment:
When an investment is made by a plan participant, we must receive the following, from you, regarding that investment:
- Amount of Retirement Plan monies invested
- Number of shares or interest provided in exchange for monies
- Share/Investment Price on the day of investment
- Share/Investment Price on the last day of the plan year
Ongoing Valuation of Non-Traditional Asset:
If a non-traditional asset was held by the plan and/or participants during the plan year, the following will also be required:
- Year-end/annual valuation of the non-traditional asset(s) as prepared by an independent, third party.
- If an independent valuation was not obtained, you will need to provide an explanation of the asset value as of the last day of the plan year, including how you determined the value of the asset.
- Thereafter, we need to receive an updated value for each investment on a frequency basis in accordance with the investment. For example, a publicly traded mutual fund is valued on a daily basis and we receive updated pricing for each mutual fund on a daily basis so that when we get to the end of the plan year, a plan participant has a clear picture of the starting value of the investment, the ending value and the change in value, throughout the year.
Annual IRS Form 5500:
We are required to report the fair market value of the company stock held by your retirement plan, via IRS Form 5500, each year. The IRS requires that you provide a beginning value of the stock on the first day of the plan year and an ending value of the stock on the last day of the plan year.
Purchase or Sale of Non-Traditional Investment By Your Retirement Plan:
Any time there is a purchase/sale of stock between the 401k Plan and your Corporation, that such purchase/sale must be for adequate consideration. Adequate consideration may be based, in part, on the “fair market value” of the company stock.
How To Determine The Value of Stock Held By Your Retirement Plan:
In any transaction where a 401(k) plan acquires qualifying employer securities as a means of financing a business, the plan sponsor should be able to establish that the securities were acquired for “adequate consideration”. An accurate assessment of fair market value of plan assets is necessary for a 401(k) Plan’s ability to comply with the many requirements of the Internal Revenue Code. Because of this fact, it stands to reason, certain 401(k) plans will need a more thorough valuation than other plans. For example, a plan that has dozens of plan participants with active ongoing investments in stock of the plan sponsor is going to require a more thorough valuation than a single participant 401(k) plan with the only asset as an investment in the non-marketable stock of the plan sponsor.
Proposed DOL regulations attempted to provide guidance to determine “adequate consideration” via a two- part test.
- The first part of the two-part test requires that a determination of adequate consideration reflect the asset’s “fair market value.” The term “fair market value” is the price an asset would change hands between a willing buyer and a willing seller.
- The “fair market value” must be reflected in “written documentation” of “fair market value”.
- The second part of the test requires that an assessment of “adequate consideration” be made in “good faith” by the trustee. Notes to the proposed regulation indicate that use of an independent appraiser may be a relevant determination of good faith, but the “written documentation of valuation required by this section of the proposal need not be a written report of an independent appraiser. Rather, it should be documentation sufficient to allow the Department to determine whether the content requirements of DOL Reg. §2510.3-18(b)(4) have been satisfied…”
Without an adequate valuation, prohibited transaction penalty taxes can run up to 100% of the transaction may apply. There is an exception to a general prohibition against use of 401(k) plan assets to be invested in stock of the plan sponsor (referred to as qualifying employer securities or QES). In order to qualify for the exception, a basic requirement is that the 401(k) Plan pay “adequate consideration” for the common stock. This by itself should be sufficient incentive to ensure that there is documentation needed to establish the initial value.
Ask our team for a list of valuation companies/professionals.
These firms are versed in valuing companies that offer qualified employer securities (QES)/privately held stock and have worked with our mutual clients in the past. Send an email to firstname.lastname@example.org with your request.
What we need by way of the valuation for IRS Form 5500 reporting purposes
When the value of a retirement plan asset changes (e.g. privately held stock/qualified employer securities (QES), we require documentation that shows how/why the value changed. This is the very same documentation an IRS or DOL auditor would require you to produce in the event of an audit. This documentation may include but is not limited to:
- A stock/business appraisal or calculations performed by persons capable of valuing such asset(s), including documentation identifying how/why the value of the asset increased or decreased;
- Profit/loss statement and balance sheet related to the asset(s) showing the value of the asset on the first day of the plan year as well as the last day of the plan year; and
- If the plan holds private/company stock, we need to know the value per share in addition to the total value of all stock held by the plan, as of the first day of the plan year and also the last day of the plan year.
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