Sharing Ownership

Art by Lily Snowden-Fine

Through the start of the 21st century, retirement plan sponsors viewed company stock as an inexpensive means of adding an asset to the retirement benefits package and rewarding employees for the company’s performance. But that has been changing steadily over the past decade-and-a-half.

Congress used the Pension Protection Act of 2006 (PPA) to encourage employers to give plan participants more options in their defined contribution (DC) plan and to lessen the reliance on company shares. Then, in 2014, the U.S. Supreme Court ruling in Fifth Third Bancorp v. Dudenhoeffer removed a legal protection known as the presumption of prudence standard, which forced plan sponsors to become more aware of the legal liability they assume for the assets in their plan.

According to the Employee Benefit Research Institute (EBRI), plan participants started shying away from investing in their employer’s shares at least as early as 2001 with the Enron accounting scandal, when that company’s bankruptcy left employees with shares that were worthless.

Stock Drop Legal Suits

Prior to the Supreme Court ruling in Dudenhoeffer, the courts had typically aided plan sponsors when they were targeted by disgruntled employees or retirees after company stock suffered a sharp drop. The presumption of prudence standard was based on the view that, if management and directors offered company stock as part of a retirement plan, doing so reflected their belief that the stock was at least as sound an option as the investment alternatives offered.

“That case changed everything,” says Jennifer Doss, director of institutional solutions for CAPTRUST in Raleigh, North Carolina. In recent years, she has had to advise plan sponsors that are much more interested in learning about their responsibilities as fiduciaries for the retirement plan. Doss adds that some companies are going so far as to remove company stock as an option for new contributions to the plan, so as to limit the likelihood that employees or retirees will file a complaint should the stock drop in price.

“There’s a shift away from putting too much of an employee’s compensation into the company’s stock,” agrees Daniel Kapinos, a partner in Aon PLC’s rewards solutions practice, in Philadelphia. “It basically comes down to the fundamentals of investing—that diversity is always going to be valuable. If you have a diverse portfolio of investments, you’re not putting all of your money into one thing.”

Between 1999 and 2016, the most recent year for which it has data, EBRI found that 401(k) assets invested in plan sponsor stock fell from 19% of total assets to 9%, the lowest figure the institute had recorded. In addition, newer employees were less likely to direct a portion of their retirement plan contributions to company stock. Less than one-quarter of recently hired plan participants had employer stock in their 401(k) compared with 40% of all plan participants.

Vanguard Group Inc. found that the proportion of 401(k) plan participants with 20% or more of their assets in company stock fell to 19% in 2018, compared with 30% in 2009.

Limiting Stock Ownership

“We don’t see many organizations adding employer stock as an investment option,” says Amy Reynolds, a partner with Mercer in Richmond, Virginia. While some sponsors are removing company stock from their plan’s investment lineup, she has noticed that more want help in establishing policies that limit the amount a participant may hold in his account. In some cases, long-tenured employees who may be approaching a predetermined threshold are barred, at least temporarily, from further investment in the stock.

The prohibitions are imposed when such longer-term participants have built large 401(k) accounts that are unbalanced as to company shares, Reynolds explains. An employer will not want to force its workers to liquidate their shares, yet, to avoid a legal liability, it may prohibit them from purchasing more until the rest of their assets have grown. Once the participant’s overall balance is such that the amount in company stock is comfortably below the threshold, he may resume its purchase.

Investment Education is Key

Reynolds says one of Mercer’s roles is to help plan sponsors that want to offer company stock best decide how to include it in their plan’s investment portfolio.

“We advocate that those decisions be based on information and that the sponsor certainly understand how the participants are currently utilizing the plan as it makes those decisions,” Reynolds says. A big question for many plan sponsors is how to service employees who are on the verge of retiring and may be preparing to roll money over or cash out their 401(k). Mercer, therefore, prompts sponsors to consider what information and services they need to provide for employees in that transition phase.

“Often a plan that has stock as an investment option will allow the participants who are invested in it to take a distribution in shares at the time they leave the plan,” Reynolds says. “That creates some potential for favorable tax treatment for those participants, should they avail themselves of that.”

CAPTRUST’s Doss says, to some extent, the shifting views on the utility of company stock in a retirement plan should be viewed within the overall trend of helping plan participants make better decisions about their retirement planning.

Advisers are working with plan sponsors to make sure participants have a better understanding of the assets in their portfolio and how the employer’s shares fit within the overall investment mix.

“There’s a realization by plan sponsors that offering stock to their employees can be a significant benefit to them, but it can also lead to somewhat concentrated stock positions,” Doss observes. “That might not ultimately be the best thing for plan participants if you don’t offer them some type of education.”