What is an ESOP trustee?

A trustee is the person or institution that normally has the formal responsibility to make sure the plan is operated for “the exclusive benefit of plan participants.” Trustees can be “independent” or “directed.” An independent trustee makes decisions for the plan based on the trustee’s judgment, relying as needed on advice from qualified professionals; a directed trustee makes decisions based on the direction of another party, which could be the ESOP administrative committee, management, or employee participants (such as when employees direct the voting of their allocated shares)

Trustee Selection

Can an independent trustee be designated for a particular issue?

Yes. A reasonable compromise for many companies is to have an inside trustee or trust committee for normal operations but appoint an outside trustee for special circumstances that present strong conflicts of interest, such as an acquisition proposal.

What are the arguments for having an outside trustee?

Assuming the trustee does act as the fiduciary, having an independent, outside trustee provides some protection should the plan’s operations be challenged. Presumably, the trustee in this circumstance will make an independent decision not subject to the conflict of interest an insider would face. With a directed trustee, the fiduciary risk still lies with whoever is directing the trustee, but the trustee will provide highly expert advice on all issues, including vetting the appraisal report and making a recommendation. In both cases, companies do not have to assign internal staff to be trustees, which requires a considerable commitment of time and effort to learn technical material.

Who can be a trustee?

Anyone can serve as a trustee, but it should be someone with the requisite knowledge and skills or someone who will acquire them. While a seller can be a trustee, it is not a good idea as courts and the DOL will regard it as a per se conflict of interest.

Who selects the trustee?

In most cases, management or the board selects the trustee but occasionally an employee committee will make the choice, or, more rarely, outside advisors, investors, or creditors may either choose a trustee or approve a trustee. There are no legal requirements for who selects the trustee.

Why select a directed trustee?

At first glance, it might seem surprising that so many companies have directed trustees. After all, the idea in having an outside trustee is arguably to reduce fiduciary liability. But ERISA assigns fiduciary responsibility to the person or persons who effectively make decisions or cause a decision to be made. In the case of a directed trustee, typically either the board of directors, an ESOP fiduciary committee (usually made up of officers of the company), or, much more rarely, a single officer of the company, actually provides directions to the trustee. These decisions involve such matters as voting the shares (expect for any issues where participants have pass-through rights), selecting an appraiser, approving the ESOP valuation, deciding on a takeover offer, buying or selling shares, and various plan operational issues.

Courts have also interpreted fiduciary responsibilities to include actions that can cause a directed trustee to take an action even in the absence of a specific direction, such as if the directed trustee is provided improper or misleading information when it reviews a valuation report and makes a recommendation to the fiduciaries. If a directed trustee receives direction from the actual fiduciary, the directed trustee is not liable for the decision except in the narrow circumstance when it knows or should have known that the decision is contrary to the plan document requirements or ERISA.

In practice, directed trustees act as expert advisors to the inside fiduciaries. They might select an appraiser, carefully review the appraisal report, advise the fiduciary committee on plan change needs, provide input into executive pay issues, etc. In other words, they do a lot of the fiduciary work for the insider fiduciary body, which then can make its decisions more easily and with more confidence.

Source: National Center for Employee Ownership (NCEO)

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